16 Jan 2015
Risks skewed to the downside for US 10y rates – BAML
FXStreet (Barcelona) - Analysts at Bank of America-Merrill Lynch, share the probable trend for US 10-year interest rates in the near future.
Key Quotes
“We use a model similar to that used by the Federal Reserve to break down 10-year interest rates into a component due to the expected path of short rates (Fed funds) and a term premium component. The 10y rate is the sum of these two pieces.”
“..our model [..] shows about half of the rally in 10y rates since the beginning of 2014 is due to a decline in the expected path of Fed funds over the 10y horizon.”
“If we have correctly identified a declining long-run path for Fed funds, or essentially an overall easier path of monetary policy over the next 10 years than markets had priced in the past, we may be in for even lower rates ahead as this trend develops.”
“In US Economic Watch: Ethanomics: [..] Ethan Harris discusses the idea that the big developing story is a major regime shift downward in the inflation outlook, which the market has yet to fully price in. If this is the case, it is possible that investors will continue to mark down the level of the average expected long-run funds rate, which would lead to lower 10y rates if term premia do not rise in an offsetting manner.”
“With Greece exit fears brewing and ECB QE on the horizon, we would be surprised to see any kind of meaningful offsetting move higher in term premia in the near future. In fact, we think term premia may be biased lower.”
“We are concerned risks are still skewed to the downside for rates if the market continues to price a lower short rate path due to increasing perceived downside risks to global growth and inflation.”
Key Quotes
“We use a model similar to that used by the Federal Reserve to break down 10-year interest rates into a component due to the expected path of short rates (Fed funds) and a term premium component. The 10y rate is the sum of these two pieces.”
“..our model [..] shows about half of the rally in 10y rates since the beginning of 2014 is due to a decline in the expected path of Fed funds over the 10y horizon.”
“If we have correctly identified a declining long-run path for Fed funds, or essentially an overall easier path of monetary policy over the next 10 years than markets had priced in the past, we may be in for even lower rates ahead as this trend develops.”
“In US Economic Watch: Ethanomics: [..] Ethan Harris discusses the idea that the big developing story is a major regime shift downward in the inflation outlook, which the market has yet to fully price in. If this is the case, it is possible that investors will continue to mark down the level of the average expected long-run funds rate, which would lead to lower 10y rates if term premia do not rise in an offsetting manner.”
“With Greece exit fears brewing and ECB QE on the horizon, we would be surprised to see any kind of meaningful offsetting move higher in term premia in the near future. In fact, we think term premia may be biased lower.”
“We are concerned risks are still skewed to the downside for rates if the market continues to price a lower short rate path due to increasing perceived downside risks to global growth and inflation.”