This week’s bond meltdown has sent the mean 10-year borrowing cost for Group of Seven countries to its highest in more than a decade, with the average yield surging above 3%. What happens next could set the tone for financial markets and the global economy for years to come. And your guess is as bad as mine as to where fixed-income markets go from here.
It’s not just traders and investors who will feel the pain from the climb in government bond yields. Companies seeking to borrow to invest and house buyers trying to afford a mortgage will all have to cope with interest rates that are far higher than the world has become accustomed to for much of the 21st century.
The 10-year US Treasury yield — the benchmark for global debt markets — rose to its highest level since October 2008 this week. Germany’s 10-year yield, which sets the pace for euro zone fixed-income markets, reached its highest point in more than a decade. Thanks to a push from a giant tax-cut package from a three-week-old government, the 30-year UK gilt yield surged to its highest in almost a quarter of a century before the Bank of England intervened to ease the pressure. The climb in government debt costs has been relentless.
For the G-7 nations, comprising Canada, France, Germany, Italy, Japan, the UK and the US, the average 10-year yield is approaching a key inflection point. At about 3.15%, it’s already well above the mean of 1.3% seen in the past decade. And if the Bank of Japan wasn’t spending billions of yen to keep its benchmark yield below 0.25%, that average would be even higher.
The current elevated level of consumer prices, which has belatedly spurred central banks into raising official interest rates, bodes ill for bond yields. After years of keeping inflation below their 2% targets, the guardians of monetary stability have been caught napping at the wheel. The current G-7 average of 7.2% is way beyond the two-decade mean of 1.7%, the one-decade level of 1.6% or the 2002-2012 average of 1.8%.
Sky-high inflation suggests central banks will need to tighten policy even further in the coming months to subdue consumer prices. The G-7 average official interest rate is at about 1.75% (although, again, Japan’s suppressed borrowing cost distorts the figures somewhat), after hovering around zero in the past two years. That doesn’t seem sufficiently high to bring prices back into line.
We haven’t even begun to address the impact high and rising borrowing costs will have on stocks. While equities floated to records on borrowing costs that were around — and below — zero, the best advice now is probably: “Don’t look down.” The total global equity market capitalization is currently about $90 trillion; while that’s 47% higher than when the pandemic locked down economies in the first quarter of 2020, it’s 25% below its November peak.
“I used to think that if there was reincarnation, I wanted to come back as the President or the pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody,” James Carville, a political consultant to President Bill Clinton, told the Wall Street Journal in 1993.
The bond market has certainly been intimidating the world this year. The test in the coming days, weeks and months will be whether that G-7 average breaches the 3.5% mean that prevailed between 2002 and 2012, or declines closer to its two-decade level of about 2.4%. But it seems safe to say that we won’t revisit the 1.3% average of the past decade any time soon.
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