TechniqueCase studyMacro and ratesMarkets
Split a move in the ten-year into expected policy and term premium with one rule of thumb
The Treasury Tantrum of 2023 · 2024
The idea
Between late July and October 2023 the ten-year Treasury yield rose about 115 basis points, an extreme move by the standard of the past three decades, while the Fed had nearly finished hiking. The Fed note on the episode offers a rule of thumb for decomposing such a move: a change in the slope between tens and twos passes roughly one for one into the ten-year term premium, while a change in the two-year yield splits about evenly between expectations and premium. It also shows the models disagreeing because of their sample periods, and finds the 2022 cycle most resembled 1994, the one that did not end in recession.
A steepening is mostly term premium; a move in the two-year is half expectations, half premium. Use the rule, then say which model you trust.
When it works
A markets interview asks why long yields moved, or a desk needs a quick decomposition before the models update.
When it may fail
A rule of thumb from one sample of episodes, and the note itself shows the models disagree on the level. Good for a first cut, not for a trade size.
How to use it
Take the last month's change in the two-year and in the tens-twos slope, apply the rule, and state the implied split. Then check it against the ACM series in the chartbook.
Where it came from
Research The Treasury Tantrum of 2023 · Anthony M. Diercks and Dev Asnani, Board of Governors of the Federal Reserve System (FEDS Notes)
What the source says. From late July to October 2023 the ten-year rose close to 115 basis points; a change in the tens-twos slope passes roughly one for one into the term premium and a change in the two-year splits about evenly.
Connected ideas
Worth knowing first
A yield is expected short rates plus a term premium, and the premium is modelled, not seenTerm premium is an estimate from a model; say which model, and treat the level as less certain than the direction.
Says something similar
The near end of the curve carries the recession signal, not the long endAn inverted curve is the market expecting cuts; read the near-term forward spread, because the long spread is diluted by the term premium.
Concepts
Put it to work on L3VLUP
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