When bond markets are discussed in national news headlines, you know something serious is going on. It’s happening right now. Both US and UK government bond yields have risen sharply this week as investors deleveraged, selling holdings in response to Trump’s ongoing tariff wars and fears of recession. Could we see a Truss-style crisis? What should investors do?
Always someone who can keep a cool head in stormy seas, Laith Khalaf, head of investment analysis at AJ Bell, has shared his latest thinking with us on what’s going on in bond markets at the moment, why we’re seeing such turbulence and what it might mean for investors as he comments:
“Bonds should do well in times of turmoil as investors flee to safety, but Trump’s trade war is now undermining the US debt market. The benchmark US 10 year government bond yield actually fell substantially when the US president announced his list of tariffs last week, but lower yields have not been sustained, and the market sell-off has now hit US Treasury bonds, with other government debt markets following suit. The 10 year US Treasury yield stood at 4.2% on 2 April, before falling to 3.9% by the end of last week. But in the last couple of days that trend has gone into reverse, with the 10 year US bond yield now standing at 4.4%*.
“There is a catalogue of reasons why investors may be selling government bonds. Hedge funds and leveraged investors looking to raise cash to cover margin calls might encash liquid assets like bonds to fill holes. Investors may be selling mixed asset funds which hold both equities and bonds, with the latter simply being collateral damage in the flight from anything that smells of risk. Markets may be concerned about an inflationary cycle sparked by an escalating trade war pushing up consumer prices. Oversupply may also be a worry because a deteriorating economy could lead to already heavily indebted governments issuing more bonds in the coming years. Then there is the $760 billion of US government bonds held by China, a country the US president is targeting with huge tariffs. China has plenty of tools it can use before resorting to leveraging its US government debt holdings in this trade war, but that nuclear possibility is now hovering at the periphery of the market’s eyeline, even though it is still only a tail risk.
“The government bond markets form the bedrock of financial markets, and none is more important than that of the US. Treasury bonds are viewed as the basis of a risk-free asset, from which other assets are priced. Rising bond yields mean higher costs for companies to borrow, and of course governments too. In the UK we saw first hand what can happen in a bond market meltdown in the wake of Kwasi Kwarteng’s mini-Budget, which required the Bank of England to ride to the rescue of the UK’s pension sector.
“So far selling in the bond market has not been as dramatic as during the Liz Truss era. It’s also important to keep some perspective. The yield on the 10 year US Treasury bond is now only a touch over where it started April, though it’s been far from a straight line from there to here. The volatility in bond markets reflects the rollercoaster ride markets are on at the moment. There is an information vacuum out there, because all previous economic and corporate forecasts need to be torn up and recalculated, so market pricing is pretty finger in the air stuff right now. That’s before you add in the uncertainty stemming from US trade policy itself.
“In the meantime, the big risk is that wildly volatile market prices lead to something fundamental breaking, as we saw with Long Term Capital Management in 1998, Lehman Brothers in 2008, or LDI pension funds in 2022. No doubt the US Fed will find itself in the spotlight as markets look for signs of a rescue, with some discussion of an emergency rate cut. That could put a floor under falling markets, but might stoke inflationary problems further down the line. It would also hand a valuable ‘Fed put’ to the US president, giving him the green light to pursue his economic policy agenda safe in the knowledge the US central bank will clean up any mess. Donald Trump is playing a high stakes game of chicken not just with China, but with Jerome Powell too.
“For investors it definitely doesn’t make sense to trade in and out of markets at the moment, because history tells us some of the best days in the market often follow the worst. Share prices have already fallen sharply, and there may be more downside to come, but without a crystal ball there is no telling which direction markets will take. Investors do need to brace for things to potentially get worse before they get better, but if you sell out after such steep falls in the market, and miss any rebound rally, that will be doubly painful.
“Difficult as it may be, it still pays to keep an eye on the long-term horizon and try to ignore the fuzzy ball of confusion on the track in front of us. Markets regularly endure sell-offs like this, but still manage to rise in the long run. Adventurous investors with cash to allocate might well be considering buying the dip, but those who do are extremely unlikely to catch the very bottom of the market, so they have to be willing to watch things get worse before they get better. Nonetheless, investing when others are fearful is one of the tenets of investing held by Warren Buffett, and markets are certainly showing signs of fright at the moment. These are precisely the conditions in which a regular investment plan really comes into its own. By buying into the market each month, you buy in at cheaper prices when markets fall, and bag yourself a smoother journey along the way.”
*Source: LSEG, yields correct as of 11am on 9 April 2025.
