Chart of the Week: Two-Year US Treasury Yield
It’s time for focusing on the two-year US Treasury yield, two-year Treasury bond, because it’s been moving sharply lower here the last few weeks – actually few months – and we’ll talk a little bit about how it has an affect on the rest of the markets, certainly the small caps. But let’s take a look at the chart first.
You can see here that this parabola – once we peaked out at 5% in the early part of May, end of April – it’s been down ever since. It’s been lower highs and lower lows, and now we’ve reached a point where there’s a little bit of support here at the 4.45% level. But if that continues to move down, we could see a move much lower, down to the 4.15% area, which we got to at the early part of January.
Now if you recall, back in January when yields fell sharply in November all the way down into January, from about the 5.2% level down to about 4.15, it was the expectation of the Fed Fund Futures Market that the Federal Reserve was going to be very aggressive on rate cuts. Of course they didn’t say that. What they said was that maybe one, possibly two rate cuts in 2024. The markets were saying, “No you’re wrong. It’s going to be five, six, possibly even seven rate cutes in 2024.” And eventually the markets had to dial it back to where the Fed is at right now.
We’re kind of moving back to the return to the scene of the crime here where in the early part of January rates got a little bit too low. But the trend here is in place.
Markets have aligned with the Fed
And I think at this point in time, I think the markets have it somewhat correct. I’m not exactly sure if it’s totally correct. If we look at the Fed Funds Future Market, which correlates a little bit with the two-year yield, the market is expecting now about three rate cuts in 2024 – two in September and December are pretty much a lock. About a 50-60% chance of another one in the November meeting.
Now as we are here at end of – middle of – July, there are only four meetings left in 2024 for the Federal Reserve – it’s July, September, November, and December. And of course Chair Powell will probably be the headline speaker/keynote address at Jackson Hole in August. I’m seeing some good things happening with yields when they’re coming down over here.
Small caps are benefitting from lower yields
Now who is the big beneficiary of lower yields? That would be the small cap stocks. And we’re seeing those small cap stocks, like the Russell 2000, reacting in kind.
And actually, since last Thursday, July 11, the CPI number came out and it was much softer than many expected. The PPI number came out the following day on the 12th was a little bit hotter. But still, that number that came out on Thursday the 11th was very positive for the small caps. Those small caps – the IWM – rallied sharply. And that rally continues.
Now it’s not anywhere near an all-time high – we’re about 5% away from an all-time high on the Russell 2000. But certainly if we continue this trajectory down in the two-year yield towards say the 4.3%…
Listen, it’s the rotation that’s happening between the large cap stocks and small cap stocks. Large caps have had a great first half in 2024. Nasdaq up about 20% – 21%. S&P 500 up about 18% so far in 2024. It’s been a great year.
But the Russell 2000 only up about 8%, and they gained a large share of that here in July. Month-to-date they’re up about 7.5%. We’ll be watching this yield – this an important yield to watch.
If you look in terms of the spread between the twos and the tens, it’s reached a low level that we haven’t seen in several months. I think it’s about 23 basis points differential between the twos and the tens. So the curve is flattening a bit. The yields are slightly coming down on the long end. They’re coming down much more aggressively on the short end, which is taking away some of that steepness in the inversion in that yield curve.
Hopefully that’s helpful, and that’s our chart of the week for the two-year US Treasury yield.
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