On Tuesday, April 19, the U.S. benchmark 10-year Treasury bond yield hit an intraday high of 2.915%, reaching the highest level since the end of 2018.

U.S. Treasury yields hit a three-year high as traders worried about rising inflation and tightening monetary policy.

subsequently fell back and remains at 2.907% so far.

European and American bond markets have generally fallen

Not only the 10-year U.S. bonds, but also U.S. bonds of various maturities have suffered substantial sell-offs.

htmlThe 730-year U.S. Treasury yield has remained at a high of nearly 3%, the highest level since February 2019.

European bond markets also suffered sharp sell-offs. So far, German 10-year government bond yields have increased by 10 basis points, approaching a high of 1%, the first time since October 2014.

Investors have dumped bonds over the past few months, pushing yields higher, amid worries about rising inflation and its impact on economic growth.

Data released last week showed that the U.S. CPI and PPI indexes continued to rise in March, leading investors to believe that the Federal Reserve may increase the pace of interest rate increases to curb inflation.

The turmoil in the situation between Russia and Ukraine has also intensified price pressure. According to CCTV News, on the 19th local time, Russian Foreign Minister Lavrov stated that the Russian army was beginning the next phase of special military operations in Ukraine. The Ukrainian military said Russia carried out operations in the Slobozhansky and Donetsk war zones in northern and eastern Ukraine on Monday.

This has caused The World Bank to make a downward revision of economic growth, and has lowered its global economic growth forecast in 2022 from 4.1% to 3.2%.

Real yields may continue to rise

The surge in U.S. bond yields has also helped U.S. inflation-adjusted bond yields turn positive for the first time since March 2020. This has put further pressure on riskier corners of financial markets.

The real yield on the 10-year Treasury note (adjusted for inflation) has surged more than 1 percentage point since early March, hitting a high of -0.04% on Tuesday, indicating that bond dividends are closing in on exceeding medium-term inflation expectations.

According to the British Financial Times, David Lefkowitz, head of U.S. equities at UBS's chief investment office, said:

The Federal Reserve will run out of liquidity.

When the Fed increases liquidity, the ones who benefit the most are the more speculative parts of the market, and when the Fed does the opposite and pulls back, they (potentially) face some headwinds.

This year's jump in real yields has prompted investors to reassess the value of businesses that may not generate huge profits for many years. Some unlisted start-ups such as Instacart have agreed to cut their valuations, while share prices of loss-making technology companies have fallen more than 30% this year, according to Goldman Sachs .

In the corporate bond market, the Ice Data Services index tracking U.S. junk bond returns fell 6.3% during the same period.

This surge in real yields reflects a surge in nominal (unadjusted for inflation) borrowing costs, spurred by the Fed. The Federal Reserve is raising interest rates and rapidly shrinking its $9 trillion balance sheet as policymakers try to tame rising inflationary pressures.

But U.S. bond yields have risen more than inflation expectations, a divergence that shows investors are very confident in the Fed's ability to reduce inflation in the coming years.

In recent weeks, the 10-year breakeven inflation rate, a measure of investors' inflation expectations, has remained in a range of about 2.75% to 3%, well below the 8.5% inflation rate in March 2022.

According to the British Financial Times, BMO Capital Markets strategist Ian Lyngen said:

People have reasonable confidence in the Fed's ability and willingness to fight inflation.

The question now is not whether the Fed's response is appropriately adjusted for inflation, but rather that market participants believe the Fed will adjust policy as necessary.

Vanguard portfolio manager John Madziyire said Despite the recovery, financial conditions "remain quite accommodative" : "This may mean the Fed needs to take more action, but it is too early to tell.""

From borrowing costs for businesses to mortgage rates for consumers, there have been sharp increases. Mortgage rates rose to 5% last week for the first time since 2011, according to Freddie Mac .

Considering the current Trends, economists are divided on how much further real yields can rise. But some warn that real yields may continue to rise as the Federal Reserve attempts to curb inflation.

This article is from Wall Street Insights. Welcome to download the APP to see more