How sustainable is the rise in global bond yields? From Investing.com

Investing.com – There has been widespread debate about the sustainability of recent rises in global bond yields and their potential impact on financial markets and economies.

Although near-term dynamics could support higher returns, cyclical forces and structural factors suggest that yields will eventually stabilize, according to analysts at BCA Research.

The rise in bond yields, particularly since the Federal Reserve’s first interest rate cuts in late 2024, reflects a combination of factors.

Adjustments to monetary policy expectations were a key driver as the market reassessed the direction of future interest rate hikes.

This rebalancing has resonated globally, impacting returns in both developed and emerging markets.

However, the long end of the yield curve has become increasingly disconnected from immediate policy expectations, underscoring the growing importance of term premiums driven by inflation uncertainty and concerns about government funding.

BCA Research notes that much of the recent rise in yields can be attributed to risk premium adjustments.

Countries with current account deficits, such as the United States and the United States kingdom (TADAWUL:) recorded more significant increases compared to surplus countries such as Germany and Japan.

This dynamic suggests that investors are factoring in greater fiscal vulnerabilities and the need for external financing, which could increase volatility in bond markets.

Despite these headwinds, BCA Research maintains a cautiously optimistic outlook for government bonds over the medium term.

The brokerage firm points to the self-limiting nature of higher yields, which tend to dampen growth and inflationary pressures.

Increased borrowing costs are already weighing on interest rate-sensitive sectors such as housing and corporate finance, with signs of lower activity in mortgage markets and increasing refinancing problems for corporate borrowers.

These developments are consistent with the broader expectation of slowing economic growth, which is likely to put downward pressure on yields over time.

At the regional level, BCA emphasizes the value of certain government bonds, particularly those from economies with higher risk premiums and weaker growth prospects.

The UK, for example, is proving to be an attractive market despite recent yield spikes. Analysts argue that the sell-off in UK government bonds is fundamentally different from the 2022 mini-budget crisis and reflects broader global dynamics rather than domestic fiscal instability.

The increased risk premium on UK bonds, combined with the cyclical vulnerability of the UK economy, creates a compelling risk-return profile.

In the United States, increasing inflation uncertainty remains a key issue. The Federal Reserve has signaled increased concerns about long-term price stability, contributing to the rise in term premiums.

However, BCA argues that these uncertainties are unlikely to persist indefinitely, particularly as economic growth slows and inflation pressures ease.

This background argues for maintaining a portfolio duration above the benchmark and for preferring high-quality government bonds over corporate bonds.

A rise in global bond yields also impacts the overall economy. Rising yields and the strengthening of the US dollar pose challenges for emerging markets whose debt is denominated in dollars.

In addition, tighter financing conditions could weigh on global trade and investment flows and increase downside risks to growth.

BCA Research recommends defensive positioning in fixed income portfolios, prioritizing duration management and selective exposure to government bonds.

Despite the possibility of further volatility in the near term, the broker emphasizes the long-term value of bonds, especially as the economic cycle transitions to slower growth and lower inflation.