How the Bond Market Will Affect Your Wallet

0:14This podcast is brought to you by the U.S. Treasury.

0:30Biggest global investors, huge insurance companies around the world, pension funds, big banks, anyone that needs to put large deposits into a very safe instrument. That safety is what makes bonds attractive to investors. But they can also make a little bit of money. The Treasury pays out interest. How much interest depends on how investors are feeling about the economy. So if demand from investors is weak, those interest rates, known as bond yields, go up. Let's say the Treasury Department wants to sell$10 billion of new debt, and it sets a 5 % interest rate on that for 10 years. If investors think that's fair, they will line up and buy all of that debt.

1:16But if there's not enough buyers in the debt sale, they're going to have to increase the rate in order to entice more.

1:26Our colleague Jack Pitcher covers markets, and he's been keeping a close eye on the upheaval in the bond market. He says there are a lot of reasons why it's happening, but the main one is a very familiar problem. Inflation. Inflation expectations are going back up right now. Oil prices are higher. We have tariffs. All these things are making it hard to get inflation back down to the Fed's 2 % target. It's been really sticky around 3%. And suddenly this is top of mind for everyone again. People are concerned this problem is not going to go away on its own. For listeners who maybe haven't been following the bond market, why should they care about what's going on?

2:11With rates in the government bond market going to their highest level in 20 years, it really impacts everything you as a consumer might touch debt-wise.

2:24Welcome to The Journal, our show about money, business, and power. I'm Jessica Mendoza. It's Friday, September 4th.

2:37Coming up on the show, how high inflation is pressuring the bond market.

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3:57Like most of us, bond investors hate high inflation. That's because high inflation often means that the government raises interest rates and higher interest rates hurt the value of bonds that are already in the market. So let's say you're holding a 10-year treasury bond that has a 5 % interest rate. For those 10 years, you're locked in at that rate. But if rates on new bonds go up, let's say the Federal Reserve has to hike interest rates a lot. In a year from now, bonds are paying 7 % or 8 % and yours only pays 5%. The value of your bond goes much lower. People would rather buy the new bond with the higher interest rate.

4:35So if you need to sell that before it matures, the value's gone down. That's a risk. That's why higher rates hurt bond values. As inflation numbers have fluctuated in the last few years, bond investors have been watching closely. Things like pandemic relief, tariffs, wars in Europe and the Middle East, they've all reverberated in the bond market. The last couple of weeks, though, two things happened that have pushed bond yields higher. First, renewed hostilities in the war with Iran. Breaking news as I speak. U.S. Central Command says American forces are striking Islamic Revolutionary Guard Corps targets in Iran.

5:15The U.S. attacked a small island in the Strait of Hormuz on Sunday. The Pentagon also targeting Iran's radar systems. Iran firing missiles and drones at U.S. allies. So in general, since the war broke out, oil prices, they're up a lot. As it has dragged on longer and people are trying to figure out how long it will drag on, how big the disruption will be, it's moved oil prices a lot in either direction. Today, the average price of diesel hit an all-time high of$5.85 a gallon. This week, when we went back to the highs on treasury yields, that came as oil was spiking again because the U.S. had launched fresh strikes for the first time in at least several weeks.

6:00And bond investors care about oil because... Oil is probably the biggest component driving inflation higher right now. That impacts the cost of a lot of things. Americans filling up at the pump, but also the input cost for all sorts of chemical and fertilizer and industrial companies. All of that gets more expensive. Those costs get passed on down the chain. So there's a concern here that if oil is structurally higher for a long period of time, it's going to stoke inflation all over the U.S. economy.

6:40Another reason that bond investors are worried about inflation has to do with the Federal Reserve's new chairman, Kevin Warsh. When Warsh was nominated by President Trump to lead the Fed, the president made it clear he expected Warsh to bring short-term interest rates down. Trump has been extremely vocal for years about how he wants lower interest rates. So a lot of investors, bankers, people on Wall Street, they've been trying to figure out, is Warsh going to try to appease the president who nominated him? It's been a bit of a guessing game as to what Warsh is going to do. And his governing style is making it even harder to figure out.

7:21Unlike his predecessors, Warsh made it clear that he's moving away from what's called forward guidance. So in the last few Fed regimes, it's become the norm to include forward guidance on policy statements where the central bank governors expect rates to be essentially giving a guide to the market about their current thinking. Warsh has been critical of that for a long time, and he's actually removed those forward-looking forecasts from Fed statements. He argues that putting that stuff out there can put the Fed into a bit of a hole where they have less flexibility to change based on the most recent data.

8:04With Warsh's approach, rates traders, bond investors, they're working with a little less information, a little more uncertainty about what the central bank is thinking. And investors tend to not like uncertainty. Investors generally do not like uncertainty. But then, last week, Warsh made some comments that gave the markets a hint that he might be open to raising rates. It happened at the Fed's annual summer meeting in Jackson Hole, Wyoming. It has a very dramatic mountain backdrop. It's a really closely watched speech by people in the market. It tends to be the longest speech that the Fed chair gives each year.

8:44And it's an important chance for them to set the tone for the market on where they expect to go next and what they're paying attention to. I've been looking forward to this weekend. So what did Warsh say? Borscht took the opportunity at Jackson Hole really for the first time in his short tenure to emphasize that the fight against inflation is not over yet and the Fed might have to hike rates again and hike rates more in order to get it under control. We must be confident that underlying inflation is moving to our objective clearly and at sufficient speed. Otherwise, we have work to do. That's our job, that's our mandate, and that's our charge to keep.

9:31To hear that from the Fed chair really signaled that people should be on watch for rate hikes again. And also that the central bank thinks inflation is a real entrenched problem that is not just going to fix itself.

9:50Now, bond investors are starting to wonder. Maybe the Fed will hike rates. If so, it would be the first time in years. People are very uncertain about what the Fed is actually going to do at its next meeting later this month. Traders, they price this type of thing in. They try and figure out what the central bank's going to do. And right now it's 50-50 whether the Fed will hike rates or stay steady. That uncertainty is causing volatility in the treasury market right now. People don't want to buy a bond now if they think rates might be higher a few weeks from now. Do you think we're maybe entering an era where higher rates are the new normal?

10:30Lots and lots of people are using the phrase higher for longer, meaning it's looking like rates are going to be structurally higher for quite a while is the view that many people are coming around to right now. and maybe even higher than what was expected a year or two ago. So what does all that mean for you, for me, for your mortgage? That's next.

11:17You know the classic Benjamin Franklin saying, U.S. Treasuries carry virtually zero default risk and are therefore the world's safest investment vehicle. Okay, just kidding. He never said that. The Treasury didn't exist for most of his life. But what is true is that U.S. Treasuries are considered the safest investment. That's because the U.S. has never meaningfully defaulted on its debt. So if you lend the U.S. your money, you're as sure as you can be that you'll get it back. It's just a question of how much interest you make on top of it. Because a treasury bond is so safe, its yield, or interest, is used as a benchmark for other, less safe kinds of debt throughout the economy.

11:59And any time government borrowing costs go up, it's going to make new borrowing costs on any other kind of debt go up. Right. If bond yields go up, the cost of borrowing other debt goes up as well. Exactly. Any new loan you might try and get right now when government bond yields are at their highs of the last 20 years, your mortgage is going to be more than it was three months ago. Your auto loan will be more. The interest rate on a new credit card you open is going to be higher. All of this stuff is impacted by government borrowing costs. Just to clarify, what we're saying here is that the interest rate on consumer debt goes up when bond yields go up.

12:41We're not talking about the price of goods exactly, like groceries or anything like that. Exactly. This has entirely to do with the cost of debt. As an example, take mortgage rates. If you're looking to buy or refinance a home, right now you're looking at some pretty high interest rates. On the monthly payment side of things, the monthly payment right now on a mortgage for a$500 ,000 house is much, much higher than it was back in, say, 2021. If you're thinking of buying or selling a home, it's going to cost you more to borrow money. The latest data shows the classic 30-year fixed rate loan approaching 7%.

13:23That's the highest level of the year. The big reason for this jump is the global sell-off in the bond market. One thing that's actually happening here is inventory is even lower than it otherwise would be because of this rate dynamic where there's a lot of people out there who have very low interest rates on their mortgage from the period when benchmark rates were super low five, 10 years ago. And they're hanging on to those rates. They don't want to move. Exactly. There's many Americans who, if they moved and bought a house even of the same value, their monthly payment would be so much higher on a new mortgage at current rates that they're not even considering it.

14:02And that's leading to much lower inventory of homes available. And it's really just making the housing market extremely expensive. too.

14:15Higher borrowing costs don't just hurt homebuyers. Other parts of the housing market, homebuilders, contractors, even the rent someone pays on their apartment, all of that gets impacted by more expensive debt. So real estate, the big real estate developers, that's a sector in the S &P 500, and it's by far the most sensitive to interest rates. It tends to perform poorly when government borrowing costs are going up. And that's because it's so important for that industry for developing big projects, big apartments. All of that is funded by debt. And when the cost of debt goes up, developers are less likely to take on new projects.

14:55It's less profitable for them. So all of that slows down. And there's a trickle-down effect to the suppliers of materials, really anything involved in construction. So contractors, lumber. whoever's providing building materials, that sort of thing. Exactly. Is it possible that as borrowing gets more expensive, thanks to higher bond yields, that people will buy less and then that could cool the economy more broadly? Certainly. I mean, people are less likely to take out a loan to start a new business. They're maybe less likely to spend a lot of their money if a higher share of it is going to debt service payments.

15:37This also applies, maybe more importantly, to the corporate world, which does less if the cost of capital is more expensive. These are all mechanisms that can slow the economy. Jack, what is the takeaway here? Is life about to start getting just more expensive across the board for everyday Americans? So borrowing costs are at the highs of what really anyone has experienced over the last 20 years. We were in a really low rate era for a long time. Everyone knows that's changed over these last four or five years, but we're now even at the high end of that. So something I think people are worried about is if this continues on this path, if bond investors get more concerned with the U.S.'s fiscal position and really start selling this debt, that could have a very large impact.

16:32If yields remain elevated, the federal government will have to pay more to borrow money. And that starts to raise the question, will the U.S. be able to get out of this cycle? Already the national debt is over$40 trillion. Concern for a potential debt spiral could erode trust in the U.S.'s ability to pay back what it owes. And that old saying, that treasuries are the safest bet, starts to seem less true. Lots of people in the U.S. have been talking about the problem of the national debt for years and years. But it's not something that's really had any consequences with it as the U.S. has run larger deficits.

17:13Bond investors still bought bonds. Borrowing costs remained in a normal range. If that starts to change and there starts to be real concern over the ability for the U.S. to pay back its bondholders and people don't want to buy these anymore, rates could go much higher than they are right now and there could be severe consequences. Today, a new jobs report outperformed expectations, adding to investors' speculation that the Fed might feel comfortable raising rates at its next meeting later this month without risking higher unemployment. That expectation of a rate hike sent bond yields up again.

18:32Our engineers are Our theme music is by So Wiley. Additional music this week from Catherine Anderson, Marcus Begala, Peter Leonard, Billy Libby, Bobby Lord, Emma Munger, Nathan Singapok, Griffin Tanner, So Wiley, Perry Music Library, and Blue Dot Sessions. Fact-checking this week by Nicole Pasolka. Our next episode of My Monday Morning will be in the feed on Sunday.

19:09Thanks for listening. We'll be back on Tuesday. Thank you.