Global long-term bond yields have been on a sustained upward trend, with several major economies’ 30-year yields touching new highs for the 21st century last week. The UK currently leads at 5.5%, followed by the US at 4.7%, France at 4.3%, Germany at 3.3%, and Japan at 3.2%. Consequently, the spread between developed and emerging market long-term yields has been narrowing. For instance, India’s 30-year government bond yield has remained steady at 7.2%, hence the spread has declined drastically from 390 bps to 175 bps over the past 3 years.
The future concern is that this persistent rise in developed nations’ bond yield can have a negative bias on the world market. Generally, high interest rates are negative for equities. Lucrative long–term global bond yields will even impact the bond capital flow to emerging markets like India, making them more attractive with low country risk. Secondly, it will pressurise countries like India to maintain their long-term interest rates at a high rate to attract foreign inflows.
European bond yields are projected to stay buoyant due to the rising fiscal spending plans of the NATO nations. Defence expenditure is set to increase significantly as the US presses its allies to shoulder a larger share of costs. With the US historically contributing nearly two-thirds of NATO’s defence budget, it now seeks to reduce its disproportionate share going forward. In addition to defence outlays, concerns around inflation, slowing economic growth, mounting debt, fiscal stress and lately the tariff issue are also weighing on the outlook.
Fed & Bond Market Implications
On the monetary side, the US Fed, which is a key governing body to set the pace of the global interest rate, had held rates at 4.5% due to the hawkish policy. The Fed is concerned about high core inflation, a strong job market and the tariff policy implications on CPI.
Recently, market expectations have shifted, with investors anticipating potential Fed rate cuts following weaker job data. The immediate effect is anticipated in short-term papers, which are more responsive to changes in interest rates. Hence, as an arbitrage opportunity, traders would be buying short-term and selling long-term papers. This has boosted demand for shorter maturities, as their net present value improves in a declining rate cycle.
Consequently, the recent rise in long-term yields appears to be driven more by arbitrage activity than by structural factors. We can expect the long-term yield to drop in the medium-term as the Fed further cuts rates during 2025-2026; otherwise, it could be a challenge.
The other thing is that the bond yield in the US has been high due to quantitative tightening, which reduces the demand for bonds, especially for long-term dated securities. Hence, not only rate cuts but also the Fed will have to reverse its tightening policy towards neutral & easing in the future to improve the financial assets in the banking system.
A growing concern is the impact of sharp tariff hikes announced by Trump over the past five months, which have prompted US shops to raise product prices. CPI, which had been concentrated during the year, started to rise again to 3.1% core CPI in August. The Fed now faces a delicate balance between managing rising inflation and a weakening labour market.
A delay in the pace of rate reduction will keep the overall interest rate in the system on the higher side, thus affecting the performance of global equity in the short to medium term. Currently, the market is taking it positively, given a long-pending change in the Fed’s monetary policy.
First published in Mint
