Analysis: Why Is There Another Sell-off in the Global Bond Market?

Dhara Ranasinghe/Harry Robertson

Reuters, London, October 1 - From the US to Germany and Japan, government borrowing costs have surged to multi-decade highs (link) on mounting concerns over inflation, higher interest rates, and persistent anxiety about sovereign debt levels.

Sustained high bond yields may squeeze the finances of households and businesses and worsen government fiscal conditions.

The following analyzes some of the factors behind volatility in the bond markets of major economies.

What has happened?

The US 10-year Treasury yield, a global benchmark for borrowing costs and asset prices, hit 5.34% US10YT=RR on Thursday, its highest level since 2002.

This yield posted the biggest quarterly gain so far this century in the third quarter, surging nearly 90 basis points, or 0.9 percentage points.

France’s 10-year government bond yield also reached its highest point since 2002 FR10YT=RR, the UK’s 30-year borrowing costs touched 6% for the first time since 1998 (link) GB30YT=RR, and Japanese bond yields are at multi-decade highs JP10YTN=JBTC.

Driven by US-Iran tensions, oil prices have risen again (link), while persistent high inflation has traders bracing for further rate hikes. These factors are pushing bond yields higher.

This has intensified worries over increased government borrowing and spending needs. Total US debt has surpassed $40 trillion, and all G7 major economies except Germany now have debt levels at or above 100% of economic output.

Why should we pay attention?

Bond yields set borrowing costs across countries (link), from government debt to home mortgages, student loans, and car loans. Rising interest rates (link) reduce the appeal of borrowing and spending, potentially slowing economic growth.

For example, the most popular US mortgage rate (link) last month climbed to its highest in more than two years, surpassing the 7% threshold for the first time since the first week of Donald Trump’s presidency.

Rising yields mean governments face higher costs when refinancing debt. The UK’s fiscal watchdog said in March that, after a surge in borrowing and yields, the country’s interest costs are close to 4% of GDP, about double the decade-long pre-pandemic average.

According to financial industry lobby group the Institute of International Finance, current total interest payments in major economies now exceed global spending on artificial intelligence, defense, or clean energy.

Bond yields also create ripple effects across markets. Higher yields may reduce the appeal of stocks, although strong profits have so far kept equities near record highs. Moreover, investors trading across diverse markets, such as hedge funds, could also come under pressure.

What does artificial intelligence have to do with all this?

Soaring bond sales to fund artificial intelligence (link) investments have been another factor driving yields higher.

Analysts note this is a basic supply-and-demand dynamic: if demand for borrowing surges, lenders can demand higher interest rates, pushing up yields.

According to data from the London Stock Exchange Group (LSEG), the five largest AI hyperscalers—Alphabet, Amazon, Meta, Microsoft, and Oracle—have issued $220 billion in bonds this year to finance investments in data centers and models. This figure is more than double last year’s total.

More bond issuance is expected in the coming months (link).

What can governments and central banks do?

US Treasury Secretary Scott Bessent has said that concerns about rising debt and yields overlook the resilience of the US economy (link).

Some analysts point out that the global economy is undergoing a structural shift, with artificial intelligence, healthcare, and services sectors taking on increasingly prominent roles. Many firms are increasing spending and expanding regardless of lending costs.

The US Treasury recently announced a bond repurchase plan (link), which analysts say is aimed at containing the rise in borrowing costs.

But long-term bond yields continued to rise afterwards.

If the market faces stress, central banks can also buy bonds, as the Bank of England did during the 2022 UK “mini-budget” turmoil (link).

The European Central Bank also has the authority to purchase government bonds under its “Transmission Protection Instrument” to curb “unwarranted and disorderly” rises in borrowing costs, provided at-risk nations comply with EU fiscal rules.

Last week, Banque de France Governor Emmanuel Moulin said that expecting the European Central Bank (link) to step in to rescue French bonds was misguided.

Is this the work of “bond vigilantes”?

Many investors believe the current rise in yields simply reflects higher borrowing costs and inflation.

They note that while lower oil prices may bring short-term relief, ultimately, lasting declines in long-term borrowing costs will require governments to coordinate action either to reduce debt or boost growth.

Absent such measures, “bond vigilantes” (link) will remain vigilant.

This term refers to investors who try to impose fiscal discipline on governments they view as profligate by demanding higher returns to purchase their bonds.

If investors believe policymakers are failing to control inflation effectively, they will also demand greater compensation.

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