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US President Donald Trump
| Photo Credit:
Eduardo Munoz
Was US President Donald Trump’s U-turn to escalate the trade war last Friday by threatening high tariffs on the EU and iPhone maker Apple, in a week when US 30-year treasury yields hit their highest levels since 2007, just a co-incidence? For, if you go back a few weeks ago, to early April, he made a similar U-turn to pause the reciprocal tariffs for 90 days in the very week the US 10-year bond yields had their biggest one week spike (50 bps) since 2001.
At that time, bond market veteran Jim Bianco posted on X highlighting the irresistible force of the bond market by quoting James Carville (Bill Clinton’s political advisor) who had said, “I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”
After all, when sovereign bond yields spike, all finance costs increase and have to adjust accordingly — the risk free rate increases, the interest rates of borrowers (government and private) increase and fiscal deficit as percentage of GDP, too, increases given the higher interest rates upon the bloated leverage of governments in developed economies like the US and Japan. All of these have implications for equities/valuations as well although they may take time to play out.
Thus, with the spike last week Trump was put on notice again by the bond vigilantes. The problem for him is it is now becoming a frequent occurrence — first in early January this year, then in April and now again!
Double talk
In recent weeks, there has been what one can term as double talk or misleading contradictory signals on economic agenda of the Trump administration. From start of Trump 2.0 till mid-April and especially during days of deep correction in markets following reciprocal tariffs, Treasury Secretary Scott Bessent was out pushing across strongly that the US economy needed a ‘detox’ from excessive government spending.
The bond market loved this and long- term treasury bond yields were falling until early April when some unexpected and unorderly winding of positions caused the yields to spike again (while there were views that this was possibly because of China selling US bonds in retaliation to US tariffs, the final verdict in this is not yet out).
However, in recent weeks, with the administration working hard to pass ‘The One Big Beautiful Bill’ focussed on tax cuts which will also increase the debt ceiling, bond investors seem to be getting spooked again. Especially when this is happening in the backdrop of the US ratings downgrade.
Last week, Bessent said the US would deal with debt by ensuring the economy grows faster than the increase in debt. This means he is not looking for ‘detox’ in economy, but for it to grow faster.
This is a complete about shift in their agenda. The important thing to note here is that, it now appears that Trump could be in a position of ‘damned if you do it and damned if you don’t’.
Escalating tariff wars is causing fear that China or other countries could retaliate by selling treasury bonds sending yields higher, while de-escalation in tariff wars, combined with increase in debt ceiling, is causing concerns that economy will overheat and inflation will spike up, resulting in the current bond tantrum.
So while Trump’s tariff war escalation last Friday may have its roots in an attempt to cool bond yields by targeting eurozone and not the three largest holders of US treasury bonds — Japan, the UK and China — the risk is rising that his administration may lose control of the narrative if the flip flops continue.
Japanese bonds
Adding pressure now are bond tantrums playing out in Japan. The Japanese 30 year bond yields too spiked last week and at highest levels on record. With it comes pressure on the Japan government (largest holder of US treasuries) and private investors to reconsider their US Treasury investments.
As it is, a falling $ and falling US bonds (US yields spike) is a double whammy for the value of their US bonds. This is now combined with their domestic bond market rout making Japanese bonds more attractive. Hence, according to some macro experts, there is a risk of similar type of volatility caused by the Yen carrytrade unwinding that happened in August last year.
Equity markets
All above factors combined now pose a strong hurdle for US and global equity markets. The strong recovery in Dow Jones, S&P 500 and Nasdaq Composite from the lows of April is likely to reverse from here if bond yields continue to inch up. It would be worth noting that last Thursday at around 1 PM New York Time, the US indices posted a sharp intra-day reversal to the downside when an auction for $16 billion worth of new 20-yr Treasury Bonds witnessed weak demand, and the yields spiked.
Indian bond markets reflect an oasis of calm amidst these tantrums. The risk for domestic equity investors, however, may stem from how FPIs react now.
Meanwhile, gold might continue to find takers as uncertainty reigns.
Published on May 24, 2025
This article first appeared on The Hindu Business Line
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