More on 10 year treasury curve fitting
Yesterday I introduced the 10 year treasury curve fit. This is
the same chart with a log scale to help show how I constructed the
green line in the original chart. Note that the green lines are
parallel to the red line, but displaced to pass through the highest
and lowest points on the blue curve.
This technique shows the maximum excursions from the red line that
have been obtained to date, but doesn't do much for prediction.
Let's look again at the excursion chart:
I have added exponential fits to the top and bottom points since
about 1994 and extended them out to 2020. I have also highlighted
recent movements in green and added a trend-line. The green line
intersects the top red line in mid-2015. The excursion would then
be about 70%. This is what the original chart would look like with
the red lines from above substituted for the green lines:
Take a moment to reassure yourself that this curve accurately
represents the recent past. If the upper red line in chart two can
be believed, the yield in mid 2015 would be about 4.1%.
What does this mean? It means that the Federal Reserve will have
lost control of the 10 year treasury yield. It looks to me like the
Fed has been maintaining a glide path for treasuries where yields
drop by a fixed percentage each year, but it is getting harder and
harder to keep them on track. When yields get too low, they give
them a whack. When they get too high, they give them a whack in the
other direction. But this is a losing battle. They are seeing
greater and greater moves away from the red line and they will soon
not be able to control yields at all. A yield of 4.1% in 2015 would
mean that the 10 year is 70% off from it's target. Effectively the
Fed will be saying it cannot control the bond market anymore. This
would be the end of a organized bond market.
