Bond Yields Driven by Inflation Outlook, But Temporary Factors Creating Noise

Bond market noise like narratives and temporary factors often mask the true signal driving yields, which is inflation.

Current bond yields are about 1% above fair value based on historical yield trends and inflation expectations.

If inflation expectations decline back to pre-pandemic levels, 10-year Treasury yields could fall to 2.09%, generating big returns.

While inflation expectations could rise further, a full 1% increase is unlikely given fading supply/demand imbalances.

Factors like shelter inflation and falling rental prices should drag CPI lower, also limiting inflation expectations.