I have been writing on the technical outlook for Treasury yields for some time and since the spring my forecast has been for a second half rally based on two factors. First, Treasuries rally in the second half of the year. I can not give anyone a good reason why that should be true, market prices really should not have any seasonal bias, but I have been around long enough to recognize a strong pattern when I see one and not let fundamentals get in the way. Second, yields and inflation bottom in the first year of economic recovery -- and we haven't turned that corner just yet. If you want to be optimistic and say the recession ended in June (a view I do not share, as my work tells me the fourth quarter will be negative for real GDP) then the bottom for yields occurs next year.
As for the current marketplace, the chart below shows that yields have dropped through some key selling pressure and the 10-year is set to at least challenge 3.00% and more likely to drop to a 2.80% yield. This is all on target with my writings in the spring and there is certainly nothing to dissuade me now.
Longer-term please understand that the market is building a base to finally break through the downward yield channel that dates back to 1986. Look for the big break to higher yields to begin in the first half of 2010.
Part and parcel with the recovery is higher real yields to temper the leveraged consumption growth that was so damaging to the structure of the economy. This is going to be a capital spending expansion, if the policy makers get it right, supported by a revalued yuan and yen. Can we stop talking about the horrors of a depreciated dollar and begin talking about ending the unfair competitive nature of Asian trade policy -- keeping their currencies unreasaonably cheap in order to keep their labor cheaper. But that is a tale for a different article.