Interest Rates to Break Out of 40-Year Cycle-to-Cycle Trend | ETF Trends

We made a call last year for a 3% 10-year Treasury yield, which was twice where the yield was at that time. One key limiting factor to the upside on the 10-Year Treasury yield at the time we made this projection was the trend in falling rates of inflation as well as short-term and long-term interest rates since the early 1980s.

As the following graph suggests, since the 1980s when Federal Reserve Chairman Paul Volker ended the inflationary spiral, each successive business cycle exhibited a peak in inflation as well as both short-term and long-term interest rates at levels that were lower than the previous business cycle.

However, inflation recently broke out of its long-term downtrend in a big way. We think that persistent economic growth combined with the recent inflationary breakout creates an environment where interest rates will move past their declining, down-trending pattern as well. It is now likely that short-term interest rates can climb to nearly 3% with long-term interest rates heading towards 4%.

With U.S. Federal Reserve policy still loose, and trillions in excess money and liquidity sloshing around the financial system, it will take time for inflation to settle down. In the meantime, short-term and long-term interest rates may reach levels higher than the peak during the previous business cycle and break the 40-year trend of lower interest rates.

We think these higher interest rates in the years to come will eventually benefit savers and bond investors who count on current income from high-quality fixed-income investments.


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