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Real Yield Curve Already Inverted
By Stuart Allsopp
SINGAPORE (MNI) - The collapse in the U.S. yield curve over recent years
has been driven partly by the rise in near-term inflation expectations relative
to long-term inflation expectations. As U.S. fiscal deficit projections continue
to widen, this tailwind to curve flattening will turn to a headwind, making
steepening increasingly likely, one way or another.
INFLATION EXPECTATIONS KEY DRIVER OF CURVE FLATTENING
If we break down the U.S. yield curve into inflation expectations & real
yields, roughly one-third of the decline in the 5s-30s curve since its November
2010 peak can be attributed to shifting inflation expectations, with 5-year
inflation expectations rising and 30-year inflation expectations declining. For
the 2s-30s curve, the contribution from changing inflation expectations is even
greater, representing roughly one half of the move.
Since the early days of QE, when expectations were for long term inflation
pressures to mount, the picture has changed dramatically, with investors seeing
little need to project higher long-run inflation even as short- and medium-term
inflation expectations have risen.
REAL 2s-30s CURVE INVERTED
However, with U.S. fiscal deficit projections continuing to deteriorate, 10
and 30-year breakevens have started to rise, even as 2 and 5-year breakevens
have declined slightly over the past few weeks. As a result, the 2s-30s
inflation-linked bond yield curve has already inverted. While it is still early
days, inflation expectations may be shifting, and if this persists, the yield
curve will subject to steepening pressures.
--MNI Singapore Bureau; +65 8233 2326; email: Asia-Editor@marketnews.com