Yields on the 10-year U.S. Treasury note hit 4% yesterday for the first time since June. And I think yields will keep rising in the months ahead.
But the United States is getting lucky.
Thanks to the damage the Greek debt crisis has done to the euro, I think the rise will be gradual indeed. Traders speculating on a spike in Treasury yields and a collapse in the U.S. dollar under the weight of the estimated $2.43 trillion in notes and bonds that the U.S. government will try to sell this year to finance a soaring deficit will have to wait until next year.
The Greek crisis, you know the one where it’s still quite possible that a member of the European Monetary Union will default on its debt, has had a profound effect on where the world puts its cash reserves. In the last quarter of 2009, the share of global currency reserves in U.S. dollars climbed to 62.1%, according to a March 31 quarterly report by the IMF (International Monetary Fund.) The euro’s share dropped to 27.4%. The shift toward the dollar and away from the euro reversed a trend that had seen overseas central banks looking to diversify away from the dollar.
And the dollar is getting a bigger piece of a bigger pie too.
Global reserves increased 10% in 2009, again according to the IMF, to $8.1 trillion. That money has to go somewhere.
And right now U.S. Treasuries look like a pretty attractive somewhere—if you’re an overseas investor or central bank that profits when the dollar rises against other currencies. For overseas investors, a gradual increase in U.S. interest rates is offset by the safety of the Treasury market and the gradual appreciation in the dollar because of higher interest rates. (U.S. investors in Treasuries don’t get that bang from any dollar appreciation. For them, gradually rising interest rates that push up the dollar don’t provide any offset to the gradual decline in bond prices from rising yields.)
It doesn’t hurt the Treasury market either that riskier dollar-denominated alternatives aren’t paying much more than long Treasuries do now. The spread between the yield on investment-grade corporate bonds and Treasuries has narrowed dramatically as the U.S. economy has recovered. There’s now not a big enough difference in yield to make investment-grade corporate bonds an effective competitor to 10-year Treasuries at 4%.
All this isn’t enough to keep the yields on 10-year Treasuries from climbing—selling $2.43 trillion in bonds in 2010 is a heavy load to lift. But it is enough to keep the increase in yields very gentle.