Morgan Stanley IM: Ask Not Why Yields Are Rising – Ask Why the Curve Is Steepening

What About Bond Yields?

• U.S. Treasury (UST) 10-year yields have risen 100 basis points (bps) from their trough on September 16, 2024, when the Fed started cutting rates.
• UST 30-year yields are 4.90% today, nearing levels not seen since their 2023 spike of 5.15% (before that their highest level would have been in 2007).
• UK (United Kingdom) 30-year bonds have reached their highest levels since 1998
• A key point here is that it’s important to note which yields are rising and which are not:
• Front-end yields have stayed low, consistent with central bank plans to cut policy rates.
• But back-end bond yields are rising, such that the yield curve is steepening.
• As we are not seeing a wholesale rise in yields across the curve, expectations for Fed and other central bank rate cuts remain intact.
• To be clear this is not just nuance, it is the key point.
• So instead of merely focusing on the narrative that bond yields are rising, which is only partially true, we should ask why the yield curve is steepening and what does that imply.
• Steeper curves are traditionally associated with stronger growth and better equity performance. But is this the case today? Let’s get into it!

Risk Considerations

Diversification does not eliminate the risk of loss. There is no assurance that the Strategy will achieve its investment objective. Portfolios are subject to market risk, which is the possibility that the market values of securities owned by the portfolio will decline and that the value of portfolio shares may therefore be less than what you paid for them. Market values can change daily due to economic and other events (e.g. natural disasters, health crises, terrorism, conflicts and social unrest) that affect markets, countries, companies or governments. It is difficult to predict the timing, duration, and potential adverse effects (e.g. portfolio liquidity) of events. Accordingly, you can lose money investing in this portfolio. Please be aware that this strategy may be subject to certain additional risks. There is the risk that the Adviser’s asset allocation methodology and assumptions regarding the Underlying Portfolios may be incorrect in light of actual market conditions and the Portfolio may not achieve its investment objective. Share prices also tend to be volatile and there is a significant possibility of loss. The portfolio’s investments in commodity-linked notes involve substantial risks, including risk of loss of a significant portion of their principal value. In addition to commodity risk, they may be subject to additional special risks, such as risk of loss of interest and principal, lack of secondary market and risk of greater volatility, that do not affect traditional equity and debt securities. Currency fluctuations could erase investment gains or add to investment losses. Fixed-income securities are subject to the ability of an issuer to make timely principal and interest payments (credit risk), changes in interest rates (interest-rate risk), the creditworthiness of the issuer and general market liquidity (market risk). In a rising interest-rate environment, bond prices may fall and may result in periods of volatility and increased portfolio redemptions. In a declining interest-rate environment, the portfolio may generate less income. Longer-term securities may be more sensitive to interest rate changes. Equity and foreign securities are generally more volatile than fixed income securities and are subject to currency, political, economic and market risks. Equity values fluctuate in response to activities specific to a company. Stocks of small-capitalization companies carry special risks, such as limited product lines, markets and financial resources, and greater market volatility than securities of larger, more established companies. The risks of investing in emerging market countries are greater than risks associated with investments in foreign developed markets. Exchange traded funds (ETFs) shares have many of the same risks as direct investments in common stocks or bonds and their market value will fluctuate as the value of the underlying index does. By investing in exchange traded funds ETFs and other Investment Funds, the portfolio absorbs both its own expenses and those of the ETFs and Investment Funds it invests in. Supply and demand for ETFs and Investment Funds may not be correlated to that of the underlying securities. Derivative instruments can be illiquid, may disproportionately increase losses and may have a potentially large negative impact on the portfolio’s performance. A currency forward is a hedging tool that does not involve any upfront payment. The use of leverage may increase volatility in the Portfolio.