Invest2 publishers2 min readPublished
Bond selloff lifts the discount rate under long-dated valuations to 5.145%
Traders betting on lasting inflation pushed the 10-year Treasury yield to 5.145% on Thursday, its highest since the 2007 financial crisis. Oil back above $105 keeps that bet alive, and AXA's chief economist names two more pressures, tech-sector borrowing and US debt, that would survive a truce.
The Investor · Invest desk
What happened
- Japan's 10-year government bond yield jumped to its highest level in 30 years overnight in Asia.
- US mortgage rates climbed above 7% as Treasury yields held over 5% into Friday.
- The selloff in Treasuries and other benchmark government bonds was the sharpest since last year's Liberation Day turmoil, driven by worries over the Iran war and inflation.
- The gap between French and German borrowing costs reached its widest since Mario Draghi's 'Whatever it Takes' speech in 2012.
Compiled by The InvestorSomething wrong?How this is made
Why it matters
- cost Investors who bought long-dated assets when Treasury yields were lower bear the repricing, because the same cash flows justify a lower price against a 5.145% base.
- decision Long-run rate assumptions in underwriting now need a path for after a Gulf truce as well as during the war, since tech-sector borrowing and US debt would still press on yields.
- exposure Equity holders are exposed to a repeat of the last time the 10-year broke 5%, when the MSCI world index went on to halve, although that fall came with the financial crash.
Discount a dollar that arrives every year forever at 5.145% and it is worth about 19.4 dollars today [1][1]. That figure comes before an underwriter adds any spread for credit risk or illiquidity. Every long-dated price quoted as a spread over the 10-year sits on top of it.
Whether that base holds depends on what is pushing it up. On energy, this week's evidence points to persistence. JP Morgan's chief economist predicted that the surge in energy prices sparked by the US-Iran war would persist, with supply bottlenecks and rising commodity prices adding to inflation, Semafor reported [7]. Oil moved back above $105 a barrel on Thursday [8]. Iran's President Pezeshkian said Iran would not allow freedom of navigation through Hormuz while the US blockade and sanctions remained in place, according to Reuters [9].
Energy is one pressure among several. "Inflation is high, central bankers are giving hawkish messages, there's competition from the funding needs of the tech sector and there are no reassuring signs on the US debt trajectory," Gilles Moec, AXA's chief economist, said [10]. Two of those four items concern how much debt is coming to market, and neither moves with the price of a barrel. A weak US government bond sale, along with strong PMI data, compounded Wednesday's rout [12]. Moec put the Middle East on top of all that as "the binary geopolitical issue" [11].
A truce that reopens Hormuz would pull oil down and take the energy premium out of the inflation bet. A growth scare could send buyers back into Treasuries with inflation still high. Or the supply pressures Moec listed keep long yields up after the oil premium fades. I'd expect the third, and if it holds, cheap long-term money stays scarce after the war as well as during it. The counter-thesis is that the selloff is mostly an oil trade. It has a clean test: a 10-year back well below 5% within weeks of a truce would show that energy carried most of the move, and underwriters could price for cheaper money again.
Governments borrow off the same benchmark. Global debt topped $365 trillion, roughly three times GDP, CNBC reported, and Semafor cited warnings that governments were caught in a "vicious cycle" of short-term fixes and long-term vulnerability [14]. On the $29 trillion Treasury market alone, each percentage point of yield comes to $290 billion a year of extra interest once the whole stock has rolled over at the higher rate [1][2].
What to watch
- The next US Treasury auction: a second weak sale would favour the debt-supply explanation for high yields over the oil one.
- Iran's conditions for restarting truce talks, flagged by Deutsche Bank analysts: acceptance of an Oman-Iran shipping route, an end to the naval blockade and release of frozen assets.
- Reports that Trump is weighing an export ban on US-produced diesel, a move that would add to the energy side of the inflation bet.