10 year treasury constant maturity rate explained

Question

The 10-year treasury constant maturity rate over 2019 fell from a Max of 2.75 to a Min of 1.50 with an average of 2.15.

I want to check whether my understanding of what the figures and the 10-year treasury constant maturity rate is correct:

What it is:

An index that is based on the average yield of treasury securities, adjusted to be on an equivalent 10-year maturity. The constant maturity yields are determined by the Treasury using interpolation of the daily yield curve.

What the figures mean:

On a 10-year maturity basis, yields have been decreasing, and therefore bond prices are increasing. Obviously investors invest in bonds for different reasons and it becomes somewhat hypothetical as to what drives the increase, but two broad categories can be, interest rate expectations and credit quality expectations.

Since the yields have decreased and bond prices increased, one could take a view (not necessarily correctly) that investors think interest rates could be due to increase further.

Does this seem correct? Happy for any constructive corrections.

Thanks.

Answer 1

Not quite. Since the yields have decreased and bond prices increased, one could take a view (not necessarily correctly) that investors think short term interest rates could be due to increase less quickly than previously expected.

Bond investors face a choice: they can either buy short term bonds and reinvest the payments or they can buy a longer term bond. The price of the longer term bonds reflects both the short term interest rate and the rate investors believe they could get if they were to reinvest later. These future rates are called the forward curve.

Because the 10 year rate is currently (2019-01-13) higher than the short term rate, it reflects an aggregate belief among investors that short term rates are likely to increase. The slope of the yield curve reflects expectations of both the pace and quantity of short term rate changes.

The above is called the "expectations theory" of interest rates. There are other factors which could influence pricing such as:

• A risk premium for the risks associated with longer term bonds
• Short term bonds have value as collateral and are highly liquid

You are correct that the constant maturity rates are from interpolation. However, they are indicative bid-side (price someone would buy at, so generally higher yield, lower price than "mid") and they generally use on-the-run bonds.

From the Treasury website:

The current inputs are the most recently auctioned 4-, 8-, 13-, 26-, and 52-week bills; the most recently auctioned 2-, 3-, 5-, 7-, and 10-year notes; the most recently auctioned 30-year bond; and composite rates between the 10 and 30-year maturity range. The inputs for the four bills are their bond equivalent yields.