Yield curve

A line drawn through the yields of comparable securities, read at a single moment. Comparable does a lot of work in that sentence: the securities share an issuer, a currency and a credit standing, and the only thing allowed to vary along the line is the time each has left to run. The benchmark case is a government curve, built from the most recently issued security at each maturity. Its shapes have names, upward sloping being the common one and also called normal, alongside flat, humped, and inverted where a longer maturity yields less than a shorter one.

The shape is conventionally decomposed into two parts. The first is the average short term rate the market expects to prevail over the life of the security, which is anchored at the near end by the policy rate the central bank sets. The second is a term premium, the additional yield demanded for the uncertainty of committing money for longer. The far end is therefore priced by expectations of inflation and growth and by the supply of and demand for long dated securities, which is why large scale central bank purchases compress it. How much of an observed long yield is expectation and how much is term premium is a live and genuinely unresolved question: the premium is not observable, it is estimated by models, and the published models disagree with one another by amounts large enough to change the conclusion.

The curve is a set of prices that exist now, not a forecast the market has published. Forward rates can be read off it, and they are the rates that make the observed prices consistent with each other, not predictions anyone has made or is committed to. A second and more practical confusion is the phrase itself, since a reference to the curve steepening or flattening is meaningless without the two maturities being compared: different pairs of points on the same curve on the same day can be moving in opposite directions.