As long bond yields rise, where should investors turn?
The rise in long-term yields reflects a broader shift in the supply and demand for capital.
The recent surge in long-term government bond yields has left investors searching for alternative opportunities. In August, the 30-year US Treasury yield briefly surpassed 5.3%, the highest level since 2007. This trend has been mirrored in the UK, Germany, and Japan, where long-term borrowing costs have climbed. While fiscal concerns contribute to this shift, the rise in yields also stems from a broader change in capital supply and demand patterns.
After the global financial crisis, capital was abundant and inexpensive, but this era has given way to tighter monetary policy. As central banks wind down their bond purchases, private investors must absorb more government debt, demanding higher returns for holding these securities. A new competitor for capital, artificial intelligence (AI) investment, has emerged.
AI spending is projected to surge from $256 billion in 2024 to a potential $1.2 trillion in 2027, forcing corporations to tap bond markets, particularly for longer maturities. Rising long-term yields act as a rationing mechanism for capital as more borrowers vie for limited resources. However, long-term inflation expectations remain relatively stable around 2%, indicating that the primary driver of yield adjustments is uncertainty surrounding fiscal policy, bond supply, and monetary policy.
Real yields and term premiums are now at levels not seen in decades. The Federal Reserve's commitment to its 2% inflation target, as emphasized by Fed Chair Kevin Warsh, may provide some relief, as a credible central bank can reduce the compensation required for future inflation risk. While the 30-year Treasury yield may have peaked for this cycle, it is not expected to decline rapidly.
Investors should consider allocating a portion of their portfolios to two- to five-year bonds, which offer stable income, while also exploring other opportunities such as floating-rate instruments and Asia credit markets. The recent earnings growth in the technology sector, driven by the AI boom, suggests that equities remain a compelling investment theme.
Written by urgent.news from Straits Times Business's reporting — not their text. Machine-written — may contain errors; check the original before relying on it.
