Monday, January 21, 2019

Weirdly Non-Monotonic Yield Curves

This is a situation that may be on the verge of disappearing and more or less normalizing, but over the last couple of months US bond markets have exhibited a weird phenomenon of non-monotonicity.  It has been even weirder than what we saw during the period of negative nomial interest rates, when what we saw was interest rates on US treasury securities fell from the shortest time horizon to a low usually around the two-year  time horizon, with the pattern then revetting to its usal upward slope.  What has been going on recently has been a pattern of rates initially rising with the time horizon in the normal pattern, then turning aound and declining, then turning around yet again and rising again.  I do not know what to make of any of this.  I exhibit it in a table below for the three days, January 2, January 10, and January 18 of this year.

                    3 mo.     1 yr.     2 yr.     3 yr.     5 yr.    10 yr.     30 yr.

1/2/19         2.42       2.60     2.50      2.47    2.49      2.66       2.97
1/10/19       2.43        2.59     2.56      2.54    2.56      2.74       3.06

1/18/19        2.41       2.60     2.62      2.60    2.62      2.79       3.09

So at the beginning of the year the rates rose from 3 months to 1 year, with rates declining to 3 years, and then rising after that.  The same pattern was still holding on January 10.  On January 18 things were somewhat more normalized with the ind-range decline being a decline from the 2 year to 3 year range, but then reversing to rise in the normal way after that.

I note that we still have not yet seen an explanation of the pattern we saw (and still see in some nations) during periods of negative nominal rates of them declining to around the two year time horizon and then reversing.  One possible explanation may be that central banks have tended to keep the very shortest term rates ither non-negative or not as negative as market forces were pushing them so those rates declined as one moved out of the zone of more immediate central bank control, then to turn around and rise.

In this case it is curious that the rates have been rising to about that two year zone (or just shy of it) and then declinig, and then rising.  If my explanation of what went on in the negative rates perios is correct, well, I do not see any equivalent for this situation to explain it.  We are seeing more changes in directon of the rates, although these variations have not been great  The one thing I can see is that December is when this weird pattern appeared, and on January 3 Jay Powell spoke at the ASSA/AEA meetings shifting the Fed to a more dovish stance.  Has this change been partly in response to this weird yield curve shape and that now we are indeed seeing some normalization as the new policy gradually sinks in?  I do not know, and I doubt anybody else does either.

Barkley Rosser