Long-Bond Selloff Deepens, but Demand Holds Firm as Higher Yields Lure Buyers

Yields on long-term government bonds in the US, Japan and Germany have climbed to their highest levels in decades, driving prices sharply lower. Concerns about fiscal strain across major economies have been compounded by renewed inflation worries, dealing a heavy blow to long-dated debt. Even so, sovereign bond markets are still functioning smoothly and demand remains intact.

On August 18, the yield on the 30-year US Treasury reached 5.33%, up nearly 40 basis points from late June. French government bond yields rose to their highest since 2008, while German bund yields climbed to the highest level since 2011. UK gilt yields neared 6%, and Japanese government bond yields approached record highs. Rising yields mean falling bond prices.

The jump in long-term yields reflects inflation concerns, competition for capital from large technology companies investing in artificial intelligence, and widening fiscal deficits across major economies.

Bloomberg reported that while the rise in long-term borrowing costs has been driven by country-specific factors, the underlying structural forces amount to a shared global trend.

One common concern is that persistent geopolitical instability could leave economies more vulnerable to supply shocks and inflation pressure. That increases the uncertainty cost of holding bonds for longer periods.

Investors are also worried that fiscal health will worsen as governments boost spending, including US military outlays and Japan's stimulus budgets.

“The market’s message is that it expects greater uncertainty in the future and therefore wants higher yields on long-dated bonds,” Justin Onuekwusi of St. James’s Place said.

Long-dated sovereign debt is especially sensitive to the trend of rising government spending.

Since the pandemic, government bond yield curves around the world have generally moved higher. Some governments have responded by cutting long-term issuance and shifting to shorter-dated debt. The UK, for example, has largely halted planned issuance of long-term bonds.

Bloomberg said governments now need to adapt to a world in which they can no longer lock in funding for decades at ultra-low rates.

Another factor behind rising long-term yields is the growing reliance on private investors as government bond issuance increases.

Minutes of the Federal Reserve’s June policy meeting showed Treasury ownership shifting “from relatively price-insensitive public sector holders to more price-sensitive private investors.” Those investors tend to demand a higher premium to hold long-dated bonds to maturity.

“Private investors are more sensitive to yields,” said Anshul Pradhan, Barclays’ head of US rates strategy. Over the past decade, changes in the composition of Treasury buyers have lifted the term premium on 30-year US bonds by about 90 basis points.

The US annual fiscal deficit is nearing $2 trillion this year, and national debt is at risk of surpassing $40 trillion.

Still, strategists at Yardeni Research said on August 18 that there was no reason for the US bond market to panic.

They said inflation concerns have driven the bond selloff, but long-term break-even rates, a gauge of market expectations for future inflation, have remained relatively stable across most major markets. Instead, the rise in borrowing costs has been driven by real yields, or the extra compensation investors demand above inflation to hold bonds.

“This repricing in long-dated Treasuries is creating an attractive entry point for new money from a real-yield perspective,” Kelsey Berro of JPMorgan Asset Management said.

Reuters also reported that investor demand remains solid. Pension funds, insurers and asset managers with long-term liabilities may find a 5.3% nominal yield on a 30-year risk-free asset attractive.

“Demand for Treasuries is still there. The question is at what yield,” Jim Barnes, director of fixed income at Bryn Mawr Trust, said. If 10-year Treasury yields move close to 5% and 30-year yields reach their highest levels in decades, more investors will be drawn to risk-free government debt.

Alonso Munoz, chief investment officer at Hamilton Capital Partners, said many Treasury investors believe they need to hold government debt even when other investment opportunities are available. He added that overseas demand also remains a support because US Treasury yields are still significantly higher than those in Japan and many other developed markets.

He said the latest Treasury auction showed no sign that so-called bond vigilantes, investors demanding higher yields in response to fiscal and inflation risks, were aggressively selling government debt. Instead, the sale suggested the market is still functioning properly, even as the federal government’s borrowing costs are being repriced.

Kim Jung-a, guest reporter