Investors were rattled this week as the benchmark 10-year Treasury yield soared to its highest level since 2007, but sticky inflation is just one of the factors behind this latest surge.
The key 10-year Treasury yield, which influences mortgages, leapt to 5.23% on Friday for its highest level since 2007. It was the latest leg higher for the benchmark yield, which earlier this month was trading just below 4.8%. Bond yields and prices move inversely to one another.
The 10-year yield’s rapid climb above 5% shows how quickly investors’ expectations have shifted toward additional tightening from the Federal Reserve in light of stubborn inflation. Fed funds futures trading shows a 64% likelihood of a rate hike in October, according to the CME FedWatch tool.
Indeed, the University of Michigan’s consumer sentiment index showed that year-ahead inflation expectations leapt to 4.6% in September, rising from 4% in August and marking the highest reading since June.
When it comes to the runup in yields, stubborn inflation and the market’s growing anticipation for more rate hikes only tell part of the story, according to Thierry Wizman, global FX and rates strategist at Macquarie Group.
“I think this year it has more to do with the bond issuance than the inflation story,” he told CNBC.
Wizman said yields at these levels are not themselves unusual, particularly because they are not being accompanied by extreme inflation expectations or an aggressively tightening Fed.
“We don’t have a Federal Reserve that’s tightening aggressively, so a lot of things look pretty normal. The thing that’s abnormal is that we’re in the midst of a very strong investment cycle,” he said.
Heavy bond issuance
The federal government is issuing debt to finance a large deficit, while companies are borrowing heavily to fund artificial intelligence infrastructure.
Wizman said it is that combination that has increased bond supply enough to put upward pressure on yields.
The AI spending boom is adding another source of bond supply to compete with Treasuries.
Vanguard estimates that Alphabet, Amazon, Meta Platforms, Microsoft and Oracle issued about $132 billion of debt through July, up sharply from the roughly $35 billion annual average between 2020 and 2024. Broader AI-related debt issuance could reach $300 billion to $570 billion this year as companies across the data-center, semiconductor and utility ecosystem borrow to finance the buildout.
At the same time, higher yields can weigh down stocks by raising borrowing costs for companies and making bonds seem more attractive to income-seeking investors.
Wizman said the capital-spending plans of hyperscalers and their suppliers are likely to keep bond issuance elevated through this year and into next year.
“So these yields could go higher,” he said.