A couple of weeks back, when the odds of a Trump victory were rising strongly in betting markets, many observers noted that the markets appeared to be positioning for a Trump presidency and that the sharp rise in US treasury yields was one of the signs of that, as a Trump 2.0 presidency would mean much larger deficits after a new round of Trump tax cuts.
Trump’s odds of winning have dropped significantly over the last week, but US Treasury yields continued to surge into the end of last week, even if the situation cooled early Monday.
This makes it less clear that the rise in yields has mostly to do with the election and perhaps as much to do with Fed policy and the backdrop of enormous and rising US debt levels.
Regardless, interest rates are critical to follow for all investors when they are flashing red as they are now. Getting to the other side of the election tells us whether the bond market will remain weak or breathe a sigh of relief – for example in a “gridlock” scenario, in which the president’s party does not have control of both houses of Congress.
The US treasury market is the centre of gravity for global markets, and the world can’t afford a weak treasury market, which not only weakens bond markets globally, but can drive uncertainty and volatility in equity markets as well because it impacts stock valuations.
And there are no easy solutions to bringing order to a chaotic bond market, either. Big cuts in government spending to shrink the deficit would tank the economy, while Fed intervention to bring order could blast the US dollar lower and worsen inflation. The bond market will be priority number one for markets and for the incoming president if it doesn’t shape up post-election.
