Bond Market Issues 'Strong Warning' ... 'It Won't End Easily... Diversify Your Portfolio' (Comprehensive)

The yield on government bonds has reached its highest level in 19 years... A warning of 'normalization' and 'AI tentacles'
Impact across asset classes including stocks, gold, Bitcoin, and real estate
"Diversify your portfolio and check individual risks"

The global bond market is experiencing a significant sell-off of government bonds. Borrowing costs for governments, corporations, and households have surged simultaneously. The yield on the 30-year U.S. Treasury bond has surpassed 5.3% for the first time since 2007. The yield on the 10-year Treasury bond, which serves as a benchmark for interest rates, has also reached around 4.7%, marking its highest level in several years.

On the 18th (local time), the Wall Street Journal (WSJ) reported, citing experts, that "the era of low interest rates is coming to an end, and a new bond market characterized by prolonged high rates has arrived," indicating that changes in investment strategies are inevitable.

Three Backgrounds Triggering the Surge in Treasury Yields

There are three main backgrounds behind the significant sell-off of Treasury bonds by global investors, which has driven up yields.

First, geopolitical conflicts and an oversupply of corporate bonds. Ongoing tensions between the U.S. and Iran have continuously fueled inflation concerns. At the same time, technology companies, including those developing AI, have issued large amounts of corporate bonds to attract investment funds, competing fiercely with government bonds for capital, which has contributed to the decline in bond prices (and the rise in yields).

Second, uncertainty regarding the policies of the newly appointed Federal Reserve (Fed) Chair and concerns over the accumulation of government fiscal deficits. Investors have expressed deep anxiety over the ballooning size of government deficits. The newly appointed Fed Chair has not provided a clear vision for monetary policy, exacerbating market confusion.

Third, amid the Fed's lack of immediate action, concerns have grown that long-term interest rates could rise further. Investors are hesitant to purchase long-term bonds due to fears that rates could soar to much higher levels in the future, even if the Fed does not act immediately.

Robert Tipp, Chief Investment Strategist and Head of Global Bonds at PGIM Credit, explained, "This is fundamentally a normalization process where interest rates are returning to past levels." He analyzed that the extreme low-interest-rate era maintained since the 2008-2009 financial crisis is ending, and the financial environment is recovering to pre-crisis interest rate levels.

Deepening Fiscal Deficits and Limits of Policy Intervention

The surge in interest rates is beginning to seriously impact national finances by raising funding costs. Currently, about one dollar out of every five in U.S. government revenue is being spent on bond interest costs.

According to the Congressional Budget Office (CBO), the ratio of interest costs to GDP is projected to rise from 3.3% this year to 4.6% by 2036. As the current national debt approaches 100% of GDP, sensitivity to interest rate fluctuations has increased. A mere 0.1 percentage point change in interest rates could add an additional $379 billion to net interest costs.

Michael Strain, Director of Economic Policy Research at the American Enterprise Institute, pointed out, "The real problem is not the rising interest rates themselves, but the government's fiscal deficit." He emphasized, "If there is only one thing we should be concerned about, it should be the fiscal deficit outlook for the next decade."

President Trump promised to lower mortgage rates, and Treasury Secretary Scott Bessent also declared that he would reduce Treasury yields by cutting the fiscal deficit. Secretary Bessent even took measures to defend the Japanese yen in the foreign exchange market to reduce pressure on the Japanese government to sell U.S. Treasuries to buy its own currency.

However, despite these efforts, Treasury yields continue to rise, revealing the limits of government intervention. Zach Griffiths, Head of Investment Grade and Macro Strategy at CreditSights, assessed, "The fact that the Treasury Secretary's actions have not been as effective as expected is further evidence that the upward trend in interest rates may continue for the time being."

'AI Tentacles' Threatening Both Stocks and Bonds

The warnings from the bond market suggest that a fundamental change in investment strategy is necessary. Strategies across asset classes, including stocks, gold, Bitcoin, and even real estate, need to be restructured.

Currently, the stock market continues to show a solid trend, buoyed by strong corporate earnings. However, experts have warned of potential 'concentration risks.' Gabriela Santos, Chief Market Strategist for the Americas at JPMorgan Asset Management, cautioned that the investment concentration risk stemming from the AI boom has now spread beyond stocks to the bond market as well.

Gabriela Santos stated, "Even if you have a very bullish outlook on AI, you need to be extremely cautious in your portfolio construction." She added, "Diversification across traditional factors, sectors, regions, and even asset classes is becoming increasingly difficult because AI tentacles are now reaching everywhere."

Currently, multi-asset investors who invest in both global stocks and bonds are simultaneously facing exposure to risks related to the establishment of AI data centers across asset classes.

In July, the Philadelphia Semiconductor Index plummeted by 21%, and the KOSPI index in Korea, which is dominated by semiconductor giants Samsung Electronics and SK Hynix, fell by 22%, revealing the reality of the risks associated with 'crowded positioning' in technology stocks.

The Need for Diversification and Thorough Individual Analysis

According to Goldman Sachs, AI data center spending is expected to exceed $900 billion by 2026 and reach $1.4 trillion by 2027. Gabriela Santos estimated that the costs of building AI infrastructure could total $5.5 trillion across both public and private markets.

Gabriela Santos advised, "The AI boom is unique in that it is being validated through corporate profits, but at some point, that growth rate will inevitably slow down. Even if AI remains a dominant theme, it is wise to diversify now."

In the bond market, the surge in issuance by technology companies has increased asset concentration risks. Major IT companies like Alphabet have issued 100-year bonds, and the volume of investment-grade bond issuance has reached record highs for four consecutive months.

In this context, Gabriela Santos emphasized, "The bond issuance by hyperscalers should be analyzed individually and precisely rather than treated as a single monolith, due to the increasing complexity of bonds backed by data center leases and special purpose vehicles (SPVs)."

Additionally, to cope with market volatility, there is a growing need to diversify portfolios into alternative assets that have low correlation with AI-related assets and can provide independent income streams. Gabriela Santos suggested U.S. Treasuries, gold, and core real estate as safe assets.

Keith Lerner, Chief Investment Officer at Truist Advisory Services, also stated, "The market has been able to ignore rising interest rates due to the remarkable earnings boom. However, after the earnings season, investors' attention will shift back to the upward trend in interest rates."

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