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The US Treasury sell-off leads to tightening US financial conditions.

Long-dated bond yields have surged this year, with the 10-year bond yield rising about 1.5 percentage points and the 30-year bond yield rising about 1.4 percentage points over the past six months. While much attention is paid to the Fed’s interest rate, longer-term bonds are also benchmarks, so they have their own impact on financial conditions. (See the entire discourse on Greenspan’s “conundrums” in the early stages of the previous tightening cycle.)

There seems to be no mystery this time, which raises an interesting question: exactly how much of the tightening is caused by the rise in long-term Treasury yields?

Deutsche Bank provides an estimate today, arguing that the selloff has done the work of about “three 25 basis point interest rate hikes.”

To get to that number, strategists aim to replicate the Fed Board’s financial conditions index, rather than the overvalued proprietary FCIs that almost everyone seems to have developed. And to provide a more responsive metric, DB modeled daily estimates for the index, since Fed estimates are only released once a month.

The 10-year Treasury yield – one of seven inputs to the Fed’s FCI, reflecting the economic environment and Monpol outlook – has certainly done some work, according to DB:

Click here for a closer look at the table.

While corporate bond spreads, real estate prices and stock prices are easing financial conditions somewhat, it is clear that the 10-year yield has had a massive impact in the opposite direction.

So the Fed can rest a little easier, at least as long as (or until?) a comparatively violent market movement pushes yields in the other direction.

Further reading:
— Why your financial condition index is bad
– Greenspan’s false “riddle”

Source : www.ft.com

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