2015: Lower inflation and policy tightening will flatten the US yield curve

Consensus said:

Yield curve to steepen as Fed hikes near.

We said:

After sharply flattening during H2 2014, the US Treasury yield curve hasn't really trended much. Rate hikes can bring flattening. But the Fed keeps holding fire, maintaining the term premium as the predominant driver of the curve. The polar opposites of Fed rate hikes and deflation both support flattening. Steepening would require a rise in inflation expectations with the Fed on extended hold. Scope for steepening driven by real term-premium widening is limited given structural factors. It's ultimately cyclical inflation that holds the key to future trends in the curve. (LSR Macro Strategy 7th October 2015)

Outcome:

Positioning for a flatter curve delivered 100bps of performance, 60bps one negative carry is deducted.

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