The market doesn't care about the Federal Reserve's dovish state of mind. The Fed said it itself: the economic outlook is improving substantially with inflation destined to rise together with the country's GDP, while the labour market gets stronger. Nevertheless, the central bank decided to stand still and continue with its accommodative monetary policy. This decision leaves the market with the only option to take the situation into its own hands and dumping Treasuries that will inevitably lose value.
The steeping of the US yield curve resumed this morning with the curve's belly and the benchmark 10-year yields rising faster than long-term US Treasuries. The big issue is that if economic forecasts and inflation expectations continue to rise, rates will not stabilize until the Federal Reserve decides to intervene and engage in the infamous yield curve control (YCC). In our view, YCC will be unavoidable because, although the market can function with higher rates now, the higher they go, the more the pain that will be inflicted on those assets with historically high durations.
The market is talking about 10-year yields hitting 2%; however, if the Federal Reserve continues to keep watching, they might rise much further. The Fed has been able to maintain easy financial conditions by keeping real rates negative. However, they will not stay negative forever. In normal circumstances, nominal yields should price over the breakeven rate. It means that if inflation expectations continue to rise, we inevitably will see 10-year yields rising above 2.3%.