Out of Control Bond Market
From inflation worries to recession fears, the financial world is awash in competing concerns. However, there is one factor that is quietly chipping away at the foundations of our economy. The $25-trillion Treasury market is considered the bedrock of the global financial system. But relentless selling of US government bonds has brought Treasury yields to their highest level in more than a decade and a half. Everything from stocks to the real estate market is in upheaval. And those that want to preserve the value of their retirement funds should be taking action.1
Understanding Treasury Bond Yields
To grasp the current economic situation, it’s crucial to understand what Treasury bond yields are. Basically, when you buy a Treasury bond, you’re lending your money to the government. In return, the government pays you interest. This is the fixed regular interest paid to the bondholder based on the bond’s face value. It remains constant over the life of the bond.
Treasury Bond Yield is the total return on the bond. It considers not only the fixed interest payments but also changes in the bond’s market price. If the bond is trading above or below its face value, the yield will differ from the fixed interest rate. This is often expressed as the current yield and yield to maturity (YTM).
The Federal Reserve controls interest rates which influence the returns on Treasury bonds. When the Fed raises its interest rate, the returns on Treasury bonds increase. And when the Fed lowers its rate, the bond returns decrease. So, the two are interconnected as changes in the Fed’s rate directly impact the earnings from Treasury bonds.
When interest rates go up, new bonds become more attractive. This is because they offer higher interest payments. Existing bonds, with their fixed interest rates, become less appealing in comparison. So, their prices drop to make them competitive, causing their value to decrease.
Recently, the 30-year US Treasury bonds broke a 5% yield for the first time since 2007. This milestone has increased concerns about the broader economy. One of the reasons behind this surge in yields is the strengthening US payrolls. It has fueled expectations of interest rate staying higher for longer.2
Why Bond Yields Matter
Treasury bonds are considered the baseline of risk-free investments. All other investment options are often measured against them. The effects of changing bond yields ripple throughout the financial world. They impact numerous sectors, including car loans, corporate investments, and public borrowing.
The Housing Market
The ramifications of rising rates have not spared the housing market. Mortgage rates have more than doubled since 2021. These high rates are causing the housing market to stall, affecting both buyers and sellers.
Stock Market Turmoil
As bond yields rise, it becomes increasingly challenging for the stock market to compete. Investors start selling off high-risk stocks to secure guaranteed, higher returns from US Treasuries. The Equity Risk Premium (ERP), which measures the difference between earnings from the S&P 500 index and the 10-year Treasury yield, is currently near zero. This is the lowest it has been in over two decades, indicating a potentially large market selloff is in the wings.4
Businesses that once thrived on easy access to affordable loans are facing new hurdles. They built their business models around the idea of accessing cheap money, but those days are long gone. Today, corporations are dealing with nearly double the interest rate. They are being forced to delay investments and scale back their workforce. The potential impact on the wider economy cannot be understated. It could result in reduced consumer spending, hampered growth and potentially lead to a severe recession.
Commercial Real Estate Concerns
Commercial real estate is another sector heavily impacted by rising bond yields. Traditionally, owners financed large commercial projects through substantial loans. They’d pay off the interest and then refinance when the principal came due. The challenge now is that they can’t afford the high-interest rates for refinancing. This, coupled with a significant drop in vacancy rates, is causing the entire sector to teeter on the brink, with property values experiencing a dramatic decline.
Escalating Debt Crisis
Perhaps the greatest threat posed by a disintegrating bond market is the spiraling national debt. The federal debt has now surpassed a staggering $33.5 trillion. The government will have to pay more to borrow money, further complicating their already sizable deficits. These annual deficits reached $1.7 trillion in fiscal year 2023. That’s a 23% increase within a year. The cost of servicing this debt has skyrocketed to $879 billion. These interest payments account for more of the budget than everything except Social Security and the Department of Health and Human Services. They have even exceeded the entire budget allocated for the Department of Defense. Economists estimate that this ongoing crisis could cost the Treasury (and taxpayers) over $1 trillion in interest payments during the current fiscal year, all without reducing the debt by a single penny.5
These financial market tremors are a clear indicator that the Treasury may soon struggle to meet its financial obligations. Investors are demanding higher yields when lending money to the government, which, in turn, increases the cost of servicing the debt. As these massive deficits continue to swell the debt, gross interest payments are also on the rise, creating a dangerous debt death spiral.
The skyrocketing Treasury bond yields have far-reaching consequences on various sectors of the economy. As they send shockwaves through the markets, the future of the economy remains uncertain. Protecting your assets in these tumultuous times has never been more important. Consider safeguarding your financial future by exploring options like a Gold IRA offered by American Hartford Gold. In an era of economic upheaval, it’s essential to secure your savings and investments for a more stable tomorrow. Contact us today at 800-462-0071 to learn more.