Below is an excellent chart from Goldman Asset Management. It shows the risk/return profile of holding the 10y treasury during different periods of time. “Principal” is the mark-to-market impact of the bond yield increasing by 100bp (1%). “Roll” is the impact of time passage. In one year the 10y bond becomes the 9y bond, and if the yield curve is positively sloping, the 9y bond should have a lower yield, offsetting slightly the 100bp yield increase. “Coupon” is just the income collected in one year, and “Total Return” is a combination of the three.
In addition to the ridiculously low current coupon these days, the duration of the 10y bond is now considerably higher (precisely because of the low coupon), making the bond more vulnerable to rate shocks. That’s why the 100 bp rate increase (dark blue) causes a much higher principal loss now than it did at any time in the past 40 years.
GS: – In the 1980’s, the average yield and duration of the 10-Year Treasury was 10.6% and 6.1 years, respectively. When rates rose 100 bps, investors still made money. Today, the on-the-run 10-Year Treasury has a yield of 1.6% and a duration of 9.2 years, resulting in heightened rate sensitivity and significantly less coupon to offset principal losses during periods of higher rates.
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