On Tuesday, the 20- and 30-year U.S. Treasury yields hit their highest levels since 2008, which is the kind of sentence that causes financial people to make a very specific face.
For those of you who were doing other things in 2008, here’s what that means.
When the U.S. government borrows money (which it does constantly, at a scale that is difficult to visualize), it issues bonds. Buy a 30-year Treasury and you're lending the U.S. government money until 2056. The interest rate on that loan is the yield. When yields go up, it means investors are demanding more compensation before they agree to the commitment.
On Tuesday, they demanded more than they have in seventeen years.
Why? Several things happened at once. Geopolitical tensions in the Middle East pushed energy prices higher, which reignited inflation concerns globally (not just in the U.S.). At the same time, central banks around the world are keeping policy tight.
Most people view interest rates as a thermostat the Fed controls (which is partially accurate). Right now, the thermostat is also being affected by things happening outside the house. Several of which are on fire. And those things won’t be resolved on a short timeline.
As a result, investors have started asking: what do I need to be paid to lock my money away for thirty years in a world that currently looks like this?
The answer is: quite a lot more than before.
The technical name for that extra compensation is the term premium. It's essentially a commitment fee: the additional yield investors demand for going long instead of short.
Think of it as the difference between paying for a month-to-month gym membership and signing a 30-year contract with a gym that may or may not exist in 2056. You'd want a significant discount (term premium) to sign that contract.
Right now, it's expanding, which means people are nervous about the long run, and the price reflects that. The result has a name that's been floating around long enough to lose most of its meaning: higher for longer. At this point, that phrase has been the outlook for so long it should have its own commemorative plate.
Stocks are feeling it. Higher long-term yields raise the rate used to value future corporate earnings, which makes those earnings worth less in today's dollars.
Then there's the competition problem. A 30-year U.S. Treasury at these levels is real competition for money that might otherwise go into equities. When the boring, safe option is paying this well, the exciting, riskier option needs to make an unusually strong case for itself.
We continue to favor businesses with real pricing power and the flexibility to perform when macroeconomic conditions aren’t cooperating.
Julia Rozenfeld contributed to this article.