As the 10-year US Treasury yield broke through 5%, the Japanese bond yield also fell below 3%, putting immense pressure on the global bond market!

The global bond market is facing its most severe test in decades. The yield on 10-year US Treasury bonds broke through 5%, reaching a new high since 2007, while the yield on Japanese government bonds also rose above 3%, hitting its highest level in 30 years. Soaring energy prices, persistently high inflation, and ever-expanding sovereign debt are creating triple pressures, further intensifying the sell-off in the global bond market.

On Tuesday during Asian trading hours, the yield on the 10-year US Treasury note climbed to 5.02%, marking its second consecutive day of hitting its highest level since 2007. Meanwhile, the yield on Japan's benchmark 10-year government bond rose to 3.03%, its highest in 30 years. This week, both the Federal Reserve and the Bank of Japan face interest rate decision windows—the market widely expects the Fed to raise rates, while the Bank of Japan is also expected to raise rates to their highest level in 31 years. Market sentiment is fragile, and any deviation from policy signals could trigger a new round of shocks.

Multiple factors drive yields upward

This round of global bond market sell-off is not caused by a single factor. The immediate trigger for the continued rise in yields was the surge in oil prices caused by tensions in the Middle East—Brent crude oil prices rose 1.6% to $107.3 per barrel in Asian trading. At the same time, large-scale corporate bond issuance to support spending on artificial intelligence has not only flooded the market with bond supply but also continued to stimulate the already resilient US economy.

Looking at deeper structural factors, the scale of government debt issuance continues to expand, requiring both refinancing maturing bonds and funding fiscal deficits. Meanwhile, major central banks have exited their quantitative easing-era bond-buying programs, leading to a cooling of demand from traditional buyers and a market increasingly reliant on more price-sensitive marginal investors to absorb supply.

"Global government bond yields are rising, with the Middle East oil shock, persistent inflation, and central banks resuming interest rate hikes all dampening demand," said Mansoor Mohi-uddin, chief economist at Bank of Singapore.

Japanese debt pressures persist, fiscal concerns remain.

The pressure on Japan's bond market is also significant. According to Reuters, the Japanese government plans to formally approve a consumption tax reduction plan this Tuesday, lowering the consumption tax on food from 8% to 1% for a period of two years, starting in April 2027. This policy will create a tax revenue shortfall of approximately 5 trillion yen, and the plan does not specify the source of financing, fueling continued market concerns about the sustainability of Japan's fiscal policy.

Furthermore, according to Bloomberg, Japanese authorities are considering setting a medium-term defense spending target of 3.5% of GDP to align with NATO allies. Westpac Banking Corp believes that potential additional defense spending from Japan will further exacerbate pressure on global bond markets.

Keisuke Tsuruta, senior bond strategist at Mitsubishi UFJ Morgan Stanley Securities, said the market will continue to face uncertainty until the draft budget is approved by the cabinet at the end of the year. "It's difficult to predict the total size of bond issuance next year, and the market will remain nervous."

5% is not the end; 6% is already in sight.

The 5% level is a closely watched psychological threshold, often serving as a key point that triggers action from investors and policymakers. The 10-year US Treasury yield briefly broke through this level on October 23, 2023, and again this Monday, but failed to close above 5% on either occasion—the last time it closed above 5% was in 2007.

This level has significant implications for the broader asset market. A 5% yield means investors can lock in a 5% annualized risk-free return over the next ten years, potentially diverting funds that would otherwise flow into the stock market. "Once it breaks 5%, risk assets start to become a concern," said Jesse Marre, senior portfolio manager at Hilbert Group.

Padhraic Garvey, Head of Research for the Americas at ING Groep NV, offered a more dire scenario: "Could things get worse? Yes. Once the 10-year yield breaks through 5%, it will bring 6% into the market's view. And the journey from 5% to 6% will be far more difficult for the broader market to digest than before."

The Fed's decision is a key variable in the near term.

The market's biggest focus right now is the Federal Reserve's interest rate decision this week.

BMO Capital Markets strategist Vail Hartman said that if the Federal Reserve holds rates steady, its credibility as an inflation hedge will be damaged; but even if it raises rates, if Fed Chairman Warsh releases dovish signals in press conferences or the dot plot, it could still force bond investors to demand higher yields to hedge against inflation risks.

Martin Whetton, head of financial markets strategy at Westpac, said, "The Fed's rate hikes coupled with continued high oil prices will push up US yields again, and Monday's intraday test of 5% should be seen as the norm, not the exception."

Phoebe White, head of U.S. interest rate strategy at UBS, pointed out that there is limited room for long-term yields to fall. She stated that the real economy has not yet shown obvious signs of weakness, and the supply and demand dynamics of the U.S. Treasury market are vastly different from those in 2007. "Structural demand for U.S. Treasuries from institutions such as foreign official investors has substantially weakened."

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