US: Higher inflation expectations and real yields set to push long nominal yields up in 2021 – Danske

Analysts at Danske Bank expect the 10-year Treasury yields to increase just under 50bp to 1.35% in 2021, causing the 2Y-10Y yield curve to steepen further next year. They outlook for higher yields, assumes an improvement in the underlying economy and higher inflation expectations. 

Key Quotes: 

“With rising inflation expectations, USD weakening and a very expansionary fiscal policy, we expect the Federal Reserve to accept a modest increase in long yields next year.”

“Indeed, the 2Y-10Y US yield curve has steepened by almost 40bp to currently 80bp over the past three months and the 10Y Treasury yield has climbed from below 0.5% in early August to currently 0.9%. This has not unsettled the Fed and unlike the ECB it has not adjusted its QE purchases upwards.”

“We do not expect the Fed to expand its QE purchases any further. While it might decide to buy more long-term bonds at the expense of short ones, the Fed would probably not counteract a modest increase in long yields. Further into 2021, the market might even begin to focus on the timing of future QE tapering. In 2021, the Fed will probably also begin to tune QE more to the development of the economy.”

“Higher US inflation expectations also mean 10Y expected real yields (nominal yields minus inflation expectations) have remained close to -1% in spite of higher nominal yields. We expect both inflation expectations and (10Y) real yields to edge up slightly, pushing long-term US yields up.”