Since July, the spread between one- and 10-year advance yields has widened, from 40 basis points, to 62 basis points. The spread between the three-month and two-year advance rates has inverted, from positive five basis points, to negative 56 basis points.

The relative “roll-down” benefit in the two-year sector inverted, from positive three basis points, to negative 17 basis points. This implies that there is no benefit of investing in a two-year versus a one-year security.

Consider the following investment alternatives covering a one-year time horizon:

• Purchase a one-year, fixed-income security (assumed to be pegged to Seattle Bank Advance Yield Curve), in this example, 5.09%.
• Purchase a two-year, fixed-income security and sell after one year, in this example, 5.00%.

In deciding whether to purchase the one-year security, as opposed to purchasing the two-year security and selling it at the end of one year, an investor would like to know the answer to a key question: In the event of rising interest rates, even though a modest principal loss would be sustained, would the extra yield earned, relative to one-year portions of the yield curve, more than offset the loss?

Under current market conditions, there is, by historical standards, minimal protection from rising rates over a one-year period for an investor that opts to purchase a two-year security and sell it at the end of the first year. At current levels, the current implied forward yield curve indicates that an investor would be not be better off by investing in a two-year security. Conversely, a borrower would be relatively better off by borrowing in the two-year sector.

The attached chart of current-versus-future implied swap yield curves suggests that short-term rates are expected to decline on the order of 50 to 75 basis points over the next six-to-12 months. Longer-term rates are expected to increase by on the order of 10 basis points one year from now. These variables would suggest future, albeit slight, steepening of the yield curve.

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