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Thursday, May 28, 2009

10-Year Bond Yield a Bad Omen?

The WSJ explains that investors are now demanding higher yields on U.S. Treasuries.

Treasury yields leapt again yesterday at the long end, with the 10-year note climbing above 3.7%, its highest close since November. Treasury yields had stayed low, and the dollar had remained strong, as long as investors were looking for the safest financial port amid the post-September panic. But as risk aversion subsides, and investors return to corporate bonds and other assets, investors are now calculating the risks of renewed dollar inflation.

They have cause to be worried, given Washington's astonishing bet on fiscal and monetary reflation. The Obama Administration's epic spending spree means the Treasury will have to float trillions of dollars in new debt in the next two or three years alone. Meanwhile, the Fed has gone beyond cutting rates to directly purchasing such financial assets as mortgage-backed securities, as well as directly monetizing federal debt by buying Treasurys for the first time in half a century.

Everyone knows about supply and demand - if you supply a ton of it, prices go down. This is going to happen to treasuries, meaning that yields will spike. (If you're keeping track, the 10 year is up 150 basis points year-to-date). The only thing that can prevent it is some fiscal discipline in Washington. And with Democrats intending to spend trillions of dollars on their favorite social welfare programs, higher yields are a near certainty. I just hope people wake up to this fact before we hit double digit interest rates.