For years, the talk in the financial markets was that U.S. interest rates couldn’t go lower because the economy was gaining strength, and once the Federal Reserve raised rates in December for the first time in almost 10 years that forecast seemed correct. It wasn’t.
Although short-term rates today are higher than they were a year ago, they’ve fallen in the past month, and long-term rates are lower all around, a full 1% lower for the 10-year and 30-year Treasury bond.
In fact, in midday trading Monday, the yield on the 10-year Treasury slid to 1.37%, a record low.
You could blame the decline in yields on Brexit and the rush to quality, safe-haven investments like U.S. Treasuries, but then you’d be missing the full story. Even before Brexit long-term U.S. rates were falling and since late January have remained under 2%.
“Rates will be low for a long time,” says Rick Rieder, chief investment officer of global fixed income at BlackRock, who was one of several panelists discussing the bond market outlook at a recent UBS 2016 CIO Global Forum in New York.
Rieder said the yield on the 10-year Treasury note, which was trading at 1.48% when he spoke, could fall another 25 basis points given the “extraordinary” demand from overseas buyers post-Brexit.
Lower yields don’t just mean less income for investors but also more risk if interest rates rise; bonds with lower coupons lose more value when rates rise.
‘The downside of being wrong can be material,” said Mike Swell, who is the co-head of global fixed income portfolio management at Goldman Sachs Asset Management. “Think about the potential for being wrong. It’s not out of the question that in 2017 the Fed acts more aggressively [due to] a very tight labor market in the U.S.”
An aggressive Fed may not be out of the question for next year but seems to be more than unlikely this year, given Brexit and slowing economic growth in the U.S. and abroad.