Eagle-eyed investors may have noticed something strange going on at the long end of the US treasury market, where 30-year yields recently breached 5% to reach their highest level since 2007.

This may sound counter-intuitive given the Federal Reserve started cutting official interest rates in September 2024 in response to cooling inflation. After peaking at 5.5% The Fed has lowered interest rates by a full percentage point to 4.5%.

Market implied interest rates suggest the Federal Reserve will remain on hold until September 2025, then lower short-term rates by another percentage point by the end of the year, although the market remains volatile. 

Yet since the Fed’s rate cutting cycle began, 10-year treasury yields are roughly three quarters of a percentage point higher at 4.5% and 30-year yields are a full percentage point higher at 5%.

There are several factors which can influence longer-dated bond yields, but consensus suggests the two most important are medium-term inflation expectations and worries over persistent and rising national debts.

In other words, investors in long bonds are demanding a ‘term premium’ to compensate them for the risk inflation remains sticky and the likelihood of more bonds being issued to finance increasing government debt.

Investors looking for evidence of tariff-induced inflation in the May CPI (consumer price index) report on 11 June were disappointed after the print came in lower than expected at 0.1%, which suggests US companies are absorbing some of the impact in their margins.

On an annual basis, inflation ticked up to 2.4% from 2.3% in the prior month. Less encouraging for the Fed was an uptick in ‘super core’ inflation, which takes services inflation minus shelter (housing) costs.

With Donald Trump’s ‘Big Beautiful Bill’ making its way through Congress, potentially adding trillions to the national debt, and the government running a 6.5% budget deficit at a time of full employment, some prominent investors have sounded the alarm.

Speaking at the Bloomberg Global Credit Forum on 12 June, Doubleline Capital chief executive Jeffrey Gundlach warned of ‘a reckoning’ for US debt, which he believes has become ‘untenable’ and may lead investors to move out of dollar-based assets.

Jamie Dimon, head of JPMorgan Chase (JPM:NYSE), has also warned the bond market will ‘crack’ if the government doesn’t get a grip on the deficit. 

US treasury secretary Scott Bessent, on the other hand, insists rising bond yields reflect the view the US economy could see an acceleration in growth driven by deregulation and tariffs.

The problem is, higher long-term yields push up the cost of financing, and for the first time in its history, last year the US spent more servicing its debt ($881 billion) than on defence ($850 billion). 

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