It’s a new week but once again we are starting to see bond yields push higher again. And if this keeps up, it will be increasingly more difficult for broader markets to ignore.
10-year Treasury yields are touching 4.80% again, its highest levels since 2023, while 30-year yields in the US are starting to nudge back closer to 5.30%. It’s a similar story elsewhere around the globe as borrowing costs in the likes of the UK, Japan, and Germany are all hovering around multi-year or multi-decade highs. Today itself, 10-year Germany bond yields are back at 3.39% – the highest since 2011.
This is all coming together amid a combination of fiscal and inflation risks, which is threatening to alter the landscape of the market. Here is more context from last week: The tectonic shift that is taking place in the bond market
And this week we’re also seeing oil prices sure higher again, adding more upside risks to the inflation outlook. And it comes in a tricky time for markets, just before the US CPI report on Friday as well as key central bank decisions with the ECB, Fed, and BOJ all set to be tested.
The stock market is starting to feel the pinch
S&P 500 futures are down by 0.4% with Dow futures down 0.9% on the day now. Tech shares are also slipping with Nasdaq futures down 0.2% currently.
It’s shaping up to be a poor start to the new week upon the return from the long weekend.
Higher Treasury yields raise the discount rate used to value future earnings, and that is particularly problematic for richly valued growth and tech stocks. The closer that 10-year yields move towards the psychologically important 5% level, the harder it becomes to justify elevated equity multiples when investors can earn attractive returns from government bonds with considerably less risk.
That being said, this does not automatically mean that stocks will collapse right there and then. Ultimately, the combination investors do not want is higher yields without stronger growth.
In time, we will see how that balance plays out.
Gold faces up against an uncomfortable environment
The precious metal has been caught in a bit of a tug-of-war this month, needing to weigh up the changing dynamics in broader markets.
Higher real yields are traditionally a headwind for gold because they increase the opportunity cost of holding a non-yielding asset. However, gold has been able to stay resilient because of the very same factors driving the push up in yields.
Inflation worries, geopolitical tensions, and sovereign debt sustainability concerns are all key factors that feed into demand for hard assets like gold – especially the latter.
With fiscal risks mounting across many major economies and central bank demand still being sustained for the most part, gold remains an attractive proposition in a world which is experiencing quite the shift from a debt and macroeconomic standpoint.
The bigger message from the bond market
In the big picture, the level in which the Fed sets its policy rate may not be as important as where investors are willing to fund governments for ten or thirty years.
Central banks just simply cannot fully control the term premium demanded by investors in holding bonds. And this is something that the bond vigilantes have often taken advantage of.
If long-term yields keep climbing toward 5% and beyond, the bond market effectively starts tightening financial conditions on its own.
And that is when higher yields are no longer just another market move. They are arguably becoming the macro variable that everything else has to trade around.
It’s definitely some food for thought as things continue down this road as we begin to turn the corner to the final quarter of the year.
This article was written by Justin Low at investinglive.com.