Bond sell-off deepens as inflation, oil prices jolt markets

On September 2, global bonds experienced a sharp sell-off, exacerbating borrowing costs to multi-decade highs. This occurred as the Middle East conflict drove up energy prices, causing concern among investors about inflation and mounting government debt. Sovereign yields, which serve as a reference point for asset prices, surged, leading to higher mortgage rates for consumers and challenging government spending decisions due to increased funding costs.

The yield on 10-year US Treasury notes reached near three-year highs at 4.81%, with further increases potentially unsettling already nervous stock markets. Japan's 10-year yield surpassed 3%, a 30-year peak, while Australia's 10-year government bond yields soared to 5.198%, their highest level in over 15 years. Germany's bund futures dropped to their lowest since 2011, and French OAT futures plummeted to a record low.

Charu Chanana, the chief investment strategist at Saxo, noted that bond investors are increasingly demanding a higher premium for inflation, fiscal risks, and the sheer volume of debt entering the market. This sell-off could potentially exceed 5% for the US 10-year bond before yields become attractive enough to attract buyers back.

Big tech companies, eager to fund the AI boom through borrowing, have intensified pressure on the sovereign bond market. Naka Matsuzawa, the chief macro strategist at Nomura Securities in Tokyo, pointed out that hyperscalers' willingness to pay high rates is pushing yields upward. He emphasized that if the productivity gains from AI translate into higher wages, the economy could handle higher interest rates.

Investors closely monitored the Federal Reserve's actions to combat persistent inflation, which remains above the central bank's 2% target. Fed Chair Kevin Warsh's hawkish remarks last week fueled expectations of additional rate hikes, with traders pricing in a European rate hike the following week and a 68% chance of a US rate hike the week after.

This structural shift in markets was evident in the surge of Japanese government bond yields, rising above 3% for the first time in 30 years on September 1. The rise in yields highlights concerns over Japan's fiscal outlook and global pressure on long-term funding costs, particularly affecting Prime Minister Sanae Takaichi's ambitious investment plans and big-spending governments in Britain, France, and Germany.