Why Is the Yield on the 10-Year U.S. Treasury Near 5%?

The yield on the 10-year Treasury crossed 5% for the first time since 2007 after U.S. Federal Reserve Chair Jerome Powell said inflation remains too high and slower economic growth is needed to sustainably lower consumer prices.

News that the yield on the 10-year Treasury has breached the psychological level of 5% has stocks under pressure, with all the major indices down on the day. The blue-chip Dow Jones Industrial Average and the technology-laden Nasdaq index are each down more than 100 points as traders and investors digest news of the new bond yields.

10-Year Treasury Yield Hit a 16-Year Peak

In a speech to the Economic Club of New York on Oct. 19, Powell stressed that the U.S. central bank intends to be resolute in its commitment to get inflation back down to its annualized 2% target.

“Inflation is still too high, and a few months of good data are only the beginning of what it will take to build confidence that inflation is moving down sustainably toward our goal,” said Powell in prepared remarks that were made available to the media.

As Powell spoke, futures traders erased any possibility of a rate hike at either of the Fed’s two remaining meetings this year — on Nov.1 and Dec. 13. Stocks and the yield on the 10-year Treasury fluctuated during Powell’s speech. After initially turning positive, stocks ended the day in the red, with the Dow falling 250 points.

Today, the selloff in stocks continues as the yield on the benchmark 10-year Treasury hovers right around 5% after briefly crossing that level for the first time in 16 years, a move that will lead to higher interest rates on everything from home mortgages to credit cards. The higher yield offered on bonds provides investors with an attractive alternative to stocks, which is why many of them are selling equities right now.

Higher for Longer

While the Federal Reserve might not raise interest rates anymore this year, the growing consensus is that the central bank will leave its Federal Funds Rate in its current restrictive range of 5.25% to 5.50% for the foreseeable future, especially with inflation remaining stubbornly above its 2% target.

The latest data has shown that inflation remains well above the central bank’s target rate, though it has come down to an annual rate of 3.7% from a peak of 9.2% in June 2022. Still, after steadily declining for 13 consecutive months, inflation has ticked higher over the last three months, rising from 3% in June of this year to 3.7% in September.

“The record suggests that a sustainable return to our 2 percent inflation goal is likely to require a period of below-trend growth and some further softening in labor market conditions,” said Powell in his remarks.

The Fed has raised interest rates 11 times since March 2022 for a total of 5.25 percentage points. The central bank’s Fed Funds Rate is now at its highest level in 22 years. Powell said that the central bank wants to see the U.S. economy slow substantially before it feels confident to loosen monetary policy.

Fear Gauge at a Six-Month High

The yield on the 10-Year Treasury is not the only gauge rising on Wall Street currently. The CBOE Volatility Index, or VIX, also known as the “fear gauge,” is currently at its highest level in six months amid growing market uncertainty and rising geopolitical tensions, notably in the Middle East.

The VIX is now at 21, its highest level since March 24 of this year, according to data from FactSet. That puts the fear gauge above its long-term average of 19.6. It also marks the first time that the VIX has closed above 20 in 101 trading sessions, ending the longest such stretch since 2018. Analysts say that the rising VIX is an indication that a significant downturn in the stock market could be imminent.

10-Year Treasury Yield: What’s Next

Fed Chair Powell is not telling the market what it wants to hear, and that is causing volatility across the board. Whether interest rates rise further or not, it is clear that investors shouldn’t expect a rate cut anytime soon. Barring an unexpected change, the current restrictive monetary policy is likely to remain in place until well into 2024.

As traders and investors come to accept this new reality, bond yields can be expected to continue rising, putting downward pressure on stocks in the process. War in the Middle East is only complicating the outlook, as is a rapidly slowing Chinese economy and elevated crude oil prices.

With so much happening at once, is it any wonder that Wall Street’s fear gauge is marching higher?

On the date of publication, Joel Baglole did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.

Joel Baglole has been a business journalist for 20 years. He spent five years as a staff reporter at The Wall Street Journal, and has also written for The Washington Post and Toronto Star newspapers, as well as financial websites such as The Motley Fool and Investopedia.

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inflation monetary reserve policy interest rates fed central bank monetary policy