The ETF Portfolio Strategist: 19 May 2021

Trend Watch

Inflation anxiety is rising, commodities prices have popped and the consumer price index increased at a pace far above expectations in April. What isn’t increasing is the benchmark 10-year Treasury yield. Let’s restate that: it’s no longer rising.

After a breathless run higher off the lows of last summer, the 10-year rate has become sticky over the past month or so as it trades around the 1.6% mark, give or take. That’s up sharply from a low of just above 0.5% at one point in August 2020, but what have you done lately? Not much.

The general pause in 10-year rate’s movements, up or down, has given government bond funds a respite from the near-nonstop losses that prevailed for much of this year through late-March. But with yields treading water, bond investments have followed suit. The iShares 7-10 Year Treasury Bond ETF (IEF), for example, has been mostly holding steady in a tight range for last six weeks through today’s close (May 19).

The holding pattern for the 10-year rate is a bit of conundrum if, as some analysts continue to insist, a new regime of higher, persistent inflation is upon us. Why, then, isn’t the 10-year yield extending its upward journey?

Some conspiracy theorists argue that the government is manipulating rates. Well, there’s manipulation and then there’s manipulation. In any case, we’ll leave that one for another day.

Alternatively, one might reason that the Treasury market isn’t fully on board with the inflation-is-headed-substantially-higher-for-longer narrative, at least not yet. Note that the 10-year rate, currently at 1.68%, hasn’t even returned to the pre-pandemic level of roughly 1.8%. If you pulled a Rip Van Winkle just before Covid-19 went global and woke up this afternoon, you might yawn, stretch and gaze at the 10-year yield and conclude that the disinflationary trend that you recalled from early 2020 was still intact by way of a continued slide in rates.

Then again, we’re hearing fresh noises that the Federal Reserve is considering the case for maybe, possibly lifting rates at some indeterminate point in the future. Today’s release of Fed minutes from April advised that “A number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases.”

And then there’s this gem from St. Louis Fed President, who told reporters today: “If we got to the point where we were comfortable on the public health side that the pandemic was largely behind us, and was not going to resurge in some way that was surprising, then I think we could talk about adjusting monetary policy.” Lest anyone get the wrong idea on timing, he added “I don’t think we’re quite to that point yet, but it does seem like we’re getting close.”

Is that a signal that the 10-year rate is about to resume its upside trend? If the logic is that this benchmark yield will begin rising anew because the Fed is getting anxious about low rates amid higher inflation expectations, one can and probably should reason that the 2-year Treasury yield will drop an early clue.

The 2-year rate is widely considered the most-sensitive spot on the yield curve for rate expectations. But for now, there’s not much to see here either. The 2-year yield has continued to churn below the 0.2% mark after dropping like a stone in 2020 during the worst of the pandemic.

When and if this rate moves above 0.2%, give us a call as it may be time to revisit the the Fed’s-about-to-hike theory. For now, Mr. Winkle probably has time for a short cat nap or two. ■