Treasury 10-year yields could fall to about 1.30% from 1.60% if the European crisis continues to send investors seeking shelter in U.S. debt, and domestic inflation falls enough to prod the Federal Reserve back to action, according to analysts at Bank of America Merrill Lynch.
In a note Monday, they write: “We don’t believe that the decline in the 10-year [rate] has only been because of flight-to-quality flows due to the European crisis. Rather, slowing growth expectations in the U.S. likely also have been a part of the story. This is evidenced in the decline in inflation expectations, as well as the first Fed hike being pushed out even further in time.
They assume an amount of Fed easing based on its previous actions to say how much a third round of quantitative easing could lower a key measure of inflation expectations found in the Treasury Inflation Protected Securities market. If they’re accurate, “the 10-year should decline by 30 basis points. Therefore, the 10-year rate is unlikely to decline much below 1.3%. We believe that the lows in rates will be led by inflation expectations before the Fed “easing trigger” is met. Once the Fed eases, risky assets should most likely rise, which could actually spark a rate-sell-off.”
