U.S. bond market selloff shows signs of deepening as long-term yields surge

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U.S. bond selloff deepens

Highlights

Demand for options protection against a 200-basis-point rise in 10-year U.S. swap rates reaches 132 basis points, the highest since March 2023.
The 10-year to 30-year yield curve steepens to about 37 basis points as investors demand greater term premium, signaling heightened long-term borrowing cost concerns.
Goldman Sachs forecasts AI hyperscalers could issue a record $420 billion in corporate debt next year, intensifying Treasury hedging and selling pressures.

Technical signals point to more bond market stress

As reported by Reuters, several market indicators suggest the recent Treasury selloff could still have further to run as investors seek protection against another sharp rise in yields.

Demand for rate options protection is increasing in the swaps market, where investors are paying more to guard against a jump in 10-year U.S. swap rates. The cost of insuring against a 200-basis-point rise over the next three months reaches 132 basis points on Monday, the highest level since the March 2023 banking crisis linked to the collapse of Silicon Valley Bank.

Implied volatility for one-month options on 10-year swap rates also rises to 21.4 basis points, the highest since late March. Although these options are tied to swap rates rather than Treasury yields, the two usually move together, making the move a sign of growing concern over higher long-term government borrowing costs.

Another warning comes from the steepening of the 10-year to 30-year yield curve. The spread widens to about 37 basis points this week as the 30-year yield rises faster than the 10-year yield, suggesting investors are demanding greater compensation to hold the longest-dated U.S. debt and pointing to a higher term premium rather than only a shift in expectations for Federal Reserve policy.

Corporate and mortgage hedging add to selling pressure

A surge in corporate bond issuance tied to the AI buildout is also contributing to pressure in the Treasury market, according to investors. Buyers of longer-dated debt sold by AI hyperscalers are hedging duration risk through Treasuries, while some investors also sell government bonds outright to make room for higher-yielding investment-grade credit.

Goldman Sachs predicts hyperscalers could sell a record $420 billion in debt next year, a level that could bring more hedging activity and potentially more selling of government securities. Neil Sun of RBC BlueBay Asset Management says Treasury futures selling often accelerates in the afternoon after corporate bond deals are priced.

Mortgage investors are adding to the strain as well. As interest rates rise, the expected life of mortgage-backed securities extends, increasing their sensitivity to further yield moves and prompting investors to add rate hedges through a process known as convexity hedging, which often includes selling Treasury futures.

Dustin Reid of Mackenzie Investments says investors are recalibrating expectations, while Alex Morris of F/m Investments says the preference for 10-year debt over 30-year bonds reflects deeper concern about the long-term U.S. fiscal picture. Together, those pressures are reinforcing fears that the bond selloff could become self-sustaining even as some buyers may soon be drawn in by the highest yields seen since the George W. Bush era.

In our earlier article on mounting stress in the U.S. government bond market, we looked at warnings that 10-year Treasury yields could climb toward 6% as leveraged investors unwind positions, potentially creating a self-reinforcing selloff. We also outlined how higher yields were spilling into the real economy via pricier mortgages and elevated borrowing costs for riskier corporate issuers, even as solid demand at Treasury auctions hinted that buyers could eventually help cap the move.

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