Global markets are more interconnected than most people think. Right now, markets are repricing sovereign risks.
The rise in global yields does not only reflect central bank policies.
Long-term government bonds are being sold off quickly from the US, Japan, and Germany.
It’s not just about inflation anymore. Investors are demanding higher yields on long-term investments to compensate for the ballooning deficits, political instability, and the erosion in the credibility of safe-haven currencies in the US and major economies.
The US is losing it’s safe-haven premium
This week, the 30-year Treasury yield in the US hit a record high of 5.1%. It was the highest since the financial crisis.
The auction of 20-year bonds on Wednesday was unable to find any buyers.
This shows that the demand is weakening despite the absence of clear signs of default or runaway inflation.
It’s all about trust. Moody’s downgraded US debt last week, removing America’s last top-tier rating.
The timing coincided perfectly with the Trump administration’s push to pass a tax bill that could add as much as $5 trillion to the federal deficit.
The Congressional Budget Office predicts that the debt-to GDP ratio will reach 118% in 2035.
In 2024, the US had a deficit of $1.8 billion. Interest payments are nearing $1 trillion per year and could consume 30% of federal revenues within a decade.
The bond market must adjust to the Federal Reserve’s difficult situation.
The Fed is expected ease up on its growth concerns, but now appears to be constrained by tariff-induced concern about inflation.
Investors are now demanding higher long-term lending. This uncertainty increases demand.
This is not a theoretical issue; it is reflected in the auction results, premiums for term and currency weakness.
The dollar is falling, when it should be increasing
Normaly, higher US yields strengthens the dollar. Since April, however, the opposite has occurred.
The dollar has declined, even though Treasury yields have risen.
This is a sign of a shift in perception. Investors are adding risk premiums to US assets.
They may not be fleeing in large numbers, but they have less confidence in the long-term viability of US fiscal policies.
This is a sign Treasuries no longer are considered untouchable. When rates are rising but the currency is falling, it means that something fundamental has been repriced.
The dollar’s weakness also reduces the appeal of US debt to foreign investors.
This complicates the financing of the US, which is forced to sell more debt each year in order to cover its deficits.
Japan’s quiet crisis is no longer quiet
After decades of near-zero interest rates, Japanese bond yields have also spiked.
The yield on 20-year JGBs is now over 2.5%. The yield on 40-year JGBs has reached a record of 3.69%.
These are not the normal moves. Japan’s long-dated bonds auctions are starting to falter, as major institutions like life insurance companies are pulling back.
The Bank of Japan has been under pressure for some time to reverse or even slow down quantitative easing.
Even more surprising is the fact that Japan’s yields now exceed those of some European counterparts.
The yen is slightly stronger, but not by enough to explain the reversal of flows.
Investors are concerned about Japan’s fiscal prospects and they’re demanding a higher return.
This shift is important for the global market, as Japanese institutions were previously heavy buyers of US and European bonds.
If they stay at home, this increases the pressure on other areas.
Europe’s pivot away from austerity towards rearmament
Germany’s 30-year Bund yield is now over 3%. It was zero only two years ago.
This is more than just an increase in inflation. It’s all about fiscal expansion.
In March, the German government suspended its constitutionally-mandated debt brake and now new defense expenditures are seen as permanent.
Budgets are increasing in Europe and there is no appetite to reverse the trend.
This is a dramatic change from the era after 2011, when European bond yields had been kept low by austerity.
The bond market has now re-rated this new fiscal stance.
The structural path of debt is changing, not because of short term rate hikes.
Investors are adjusting as they anticipate a Europe which will borrow more, and may not be able to offset this with strong growth.
The term premium is returned
The US, Japan and Europe are not connected by inflation or rate increases. The return of the term-premium is what connects the US, Japan, and Europe.
Over the years, central banks have dominated long-term interest rates through quantitative easing (QE) and forward guidance. Now, this control is slipping.
Investors are looking for compensation in the event of uncertainty, whether it be fiscal, geopolitical or macroeconomic.
In 2024, the US will sell $2.6 trillion of gross debt. Japan is experiencing buyer fatigue.
Germany is rebuilding its army. Everyone is spending more money to protect themselves from global fragmentation.
The markets are not yet revolting, but they’re recalibrating. Long-term capital has become less patient and cheaper.
This is not just a temporary tantrum
The selling of long bonds isn’t just about the next Fed action. It reflects a deeper change in how markets perceive risk, stability and the long-term value for sovereign debt.
Fiscal paths have become steeper. Political coordination has been weakened. And buyers are beginning to ask more questions.
It is a positive sign for both the fixed-income markets and equity markets when higher yields are driven primarily by growth.
When yields rise due to inflation, or fiscal risk, it tends to negatively impact valuations.
The tax bill has also reinforced investor doubts that the US will be able to grow its way out from a spiraling deficit.
It’s hard to tell whether this is a major crisis or not. It’s a paradigm shift, for sure.
Global yields are increasing for structural reasons and the implications will go beyond rates.
Credit spreads and equity valuations are all adapting to this new environment.
This post Global yields surging: What is the bond market telling us? This post may be updated as new information becomes available
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