Treasury yields are continuing their decline amid the release of several macroeconomic data points that point to cooling inflation in the coming months. The 10-year Treasury yield, which reached a high of close to 5% last October, has settled around 4.28% today after declining rapidly in recent weeks. The latest data from the Labor Department showed that initial jobless claims increased to 242,000 last week from 229,000 the previous week, indicating a slowdown in job openings. This is usually a precursor to cooling inflation. Producer prices, which give a good indication of supplier-level inflation, also fell 0.2% in May, confirming that inflationary pressures are beginning to normalize. Last Wednesday, CPI inflation also came flat compared to the previous month at 3.3% with core inflation reporting the slowest gain since 2021. Recent macroeconomic data points to more declines in treasury yields.
How Do Treasury Yields Work?
Treasury yields – whether it be for long or short-dated bonds issued by the U.S. government – represent the general interest rates in the United States. These yields are inversely related to the price of the bonds, meaning that higher bond prices result in lower yields and vice versa. The Fed funds rate set by the FOMC, inflation expectations in the market, and the outlook for economic growth are the major drivers of fluctuations in treasury yields. Stock investors need to pay close attention to treasury yields for two main reasons.
First, declining yields result in higher present value for future cash flows expected from companies, which in turn allows these companies to trade at higher valuation multiples. In a nutshell, growth companies tend to see their share prices increase when yields decline.
Second, declining yields signal deteriorating investor sentiment toward future economic growth. This is not always a positive sign, but in today’s context, this points to cooling down inflation. If inflation inches closer to the Fed’s target of around 2%, policymakers are likely to cut rates, boosting economic growth and stock prices.
What The Analysts Are Saying
Wall Street analysts are divided on the path for interest rates – and therefore treasury yields – from now on.
Paul Ashworth, chief North America economist at Capital Economics, believes that inflation will progress toward the 2% target later this year, allowing Fed officials to cut rates. Treasury Yields slightly rose yesterday after Fed officials announced that only a single rate cut is likely this year – not three – but Paul Ashworth does not consider this to be a hawkish development. Ameriprise Financial chief market strategist Anthony Saglimbene projects the Fed to continue with its wait-and-see approach for now, meaning rates could remain stable around these levels for some time before any meaningful fluctuation. Morningstar chief U.S. economist Preston Caldwell, however, is expecting the Fed to cut rates two times this year starting in September, which points to lower treasury yields by the end of the year.
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