The rout is on in the $13.6 trillion U.S. Treasury market.
The debt has lost more than $300 billion of market value since the end of October. Shorter-term yields have risen to the highest levels since 2011. Wall Street analysts are saying the 30-year bull run in bonds is over, for real this time.
Ask three traders what’s behind this and you will probably get three different answers. But they will most likely boil down to one main idea: Investors are pricing in higher consumer prices in the U.S., which is bad for fixed-rate bonds because it means investors will receive less income relative to the diminishing purchasing power of the dollar.
The chief explanation is that President-elect Donald Trump is expected to borrow and spend a lot of government money, spurring inflation and potentially growth. But his victory is only part of the equation, and it'll take months before any of his policies generate growth. The other potentially larger factor is oil. Since February, crude prices have more than doubled. The rally has fueled a recovery in energy stocks and bonds and also led to higher consumer prices around the world. While academics vigorously dispute the effect of oil prices on longer-term inflation, a strong argument can be made for a tight correlation between crude values and inflation expectations.
Indeed, as oil prices rally, consumer price indexes around the world are starting to tick upward. Even in Europe, which has been dogged by especially slow growth, the risk of deflation has disappeared rapidly, European Central Bank President Mario Draghi said at a news conference last week.
After Trump won the U.S. election, traders were galvanized into action. There was suddenly a new narrative. His administration would enact policies that would lead to faster growth and losses on bonds. Yields on U.S. 10-year Treasuries surged to their highest levels in more than two years. The Fed was given a green light to raise rates this week because such a move was suddenly rendered insignificant. It was dwarfed by the idea of much higher borrowing costs ahead.
And as everyone fretted, they pointed to higher consumer expenditures as evidence of more growth ahead. Higher oil prices, of course, have contributed to the price increases. If crude falls again, investors will stop talking so much about inflation. And don't be surprised if this debt that's being written off for dead show some signs of life with another gasp at a government bond rally.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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