Currently, the prevalent sentiment in the financial markets is “Higher for longer.” This implies that key interest rates are anticipated to decrease at a slower pace than initially predicted by market participants. This realization appears to be gradually permeating the stock markets, as evidenced by the recent stark decline in bond prices, which are plummeting while yields are soaring (prices and yields on bonds move in opposite directions).
For instance, the market foresees the yield on ten-year US government bonds reaching the five percent threshold relatively soon. In early trading, these bonds surged to a level of 4.85 percent. In the case of 30-year US securities, this level was already attained on Wednesday. Likewise, Germany is on the cusp of surpassing the three percent mark in the long term with its ten-year benchmark bonds. This milestone was even achieved during the day (for the first time since 2011). “These developments are starting to induce apprehension across all asset classes,” noted James Wilson, a portfolio manager at Jamieson Coote Bonds in Melbourne. “Currently, there’s a reluctance to buy. Nobody wants to oppose the surging yields, despite prices already being quite oversold.”
Not only has the global bond market witnessed a 3.5 percent decline this year, but an index measuring U.S. bond volatility reached its highest level since May on Tuesday. The average price of bonds in the Bloomberg US Treasury Index has now fallen to 85.5 cents per dollar, just half a cent above the record low set in 1981.
When new, higher-yielding bonds enter the market, old bonds lose value, as the higher-yielding ones become more attractive and are preferred for purchase.
Not yet a danger
This sell-off is also influenced by recent statements from central bankers. “I’m concerned that we might need to raise the key interest rate again this year,” stated Loretta Mester, president of the regional Federal Reserve Bank of Cleveland. However, the decision is contingent on data. The next interest rate meeting of the US Federal Reserve for 2023 is slated for November 1.
U.S. Treasury Secretary Janet Yellen also weighed in recently. She announced, among other things, that key interest rates would return to a “normal level” in the medium term. “Evident economic resilience might indicate an extended period of higher interest rates, but we’ll have to wait and see. I don’t consider this a certainty,” she remarked at an event. She expressed confidence in her outlook for the U.S. economy. When asked about the likelihood of sustained high bond yields, she responded, “I don’t know. This is a major concern for me and the government.” After all, higher yields increase borrowing costs for governments on the international financial markets.
Yellen asserted that the current debt levels are manageable, gauged by how much the U.S. expends annually to finance the federal debt as a percentage of gross domestic product, adjusted for inflation. However, elevated long-term interest rates could pose a threat. Before her role as Treasury Secretary, Yellen served as the head of the U.S. Federal Reserve. Nonetheless, politicians do not hold sway over the decisions of the Federal Open Market Committee, which dictates U.S. monetary policy.
The recent upswing in yields is also tied to the economic data released in the US this week: there were notably more job vacancies in the US labor market than anticipated. This implies that the US Federal Reserve still has leeway to further increase interest rates without stifling the economy.
The slump in the U.S. bond market is also exerting significant downward pressure on the debt securities of developing countries. Their yields reached an annual high of around 8.9 percent on Wednesday.
