During the last debt scare, the 10-year yield hit 5%, and the floodgates of demand opened. Now the debt is $6 trillion bigger; no guarantee 5% will open the floodgates again.

By Wolf Richter for WOLF STREET.

Long-term Treasury yields surged this week as the bond market got nervous about longer-term inflation prospects and edgy about the onslaught of new debt needed to fund the ballooning deficit. Huge amounts of new debt will have to be issued over the next many years to fund it all, and those securities will have to find new buyers, and the fear in the bond market is that ever more buyers will have to be enticed into the market with higher yields, and higher yields mean lower prices for existing bondholders, who’ve already been through a bloodbath since mid-2020 when the 40-year bond bull market flipped to a bond bear market as longer-term yields began to soar.

The 30-year Treasury yield jumped by 10 basis points this week to 5.16%, after briefly reaching 5.19% on Thursday intraday. These were the highest yields, along with May 19, since July 2007.

The Fed has cut its policy rates by 175 basis points since September 2024, even as inflation had started to accelerate again. And over the same period, the 30-year Treasury yield has risen by 120 basis points. The 30-year yield is now 153 basis points above the Effective Federal Funds Rate, which the Fed targets with its policy rates (EFFR, blue), after having been 140 basis points below the EFFR before the Fed’s rate cuts began in September 2024.

These rate cuts spooked the bond market. The bond market fears inflation because it eats up a big portion of the purchasing power of long bonds. It fears a dovish Fed that allows inflation to happen. And it fears the onslaught of new debt.

The two-decade chart below shows the final 14 years of the 40-year bond bull market and the first six years of the bond bear market. The 30-year Treasury yield took 14 years to zigzag down from 5.2% to 1.0% (March 2020), and then took only six years to rise back to those levels.

The market value of the 30-year Treasury securities purchased in March 2020 at the Treasury auction has dropped by over 50%. This is the bloodbath these bondholders have been through, and they fear that there’s more to come, and they’re demanding higher yields to buy these securities to be compensated for those risks.

This was trading in the secondary market. But there were two long-term Treasury auctions this week, and both were revealing of the situation: The 20-year Treasury bond auction on Wednesday and the 10-year Treasury Inflation Protected Securities (TIPS) auction on Thursday.

The 20-year Treasury bonds sold at auction on Wednesday at a yield of 5.163%. Then in the secondary market on Thursday, the 20-year yield rose to 5.20%, the highest yield since the debt scare of October 2023, which had produced the highest yield since 2007. The 20-year yield closed on Friday at 5.18%, up by 11 basis points for the week.

The debt scare of 2023 ensued after the Treasury Department had revealed just how much long-term debt it would issue over the next few quarters. That flood of projected new supply gave bond investors the willies.

During that debt scare, the 10-year yield surged relentlessly from 3.4% in May 2023 to over 5% on October 23, 2023 — 160 basis points in seven months. But 5% opened the floodgates of demand and in hours drove the yield down to 4.83%, which was quite a spectacle.

With the 10-year yield at the time, 5% was where the floodgates of demand opened, and it hasn’t hit 5% since.

That’s what happened last time there was a debt scare. There is no guarantee that the floodgates of demand will open sufficiently again when the 10-year yield hits 5% next time because by now, the debt has gotten $6 trillion bigger.

After seeing the bond market’s reaction, the Treasury Department walked back its issue plans for long-term securities to focus more on shorter-term maturities and T-bills. And it’s treading carefully to this day about long-term issuance. The 10-year yield going over 5% was a scary moment for the Treasury Department.

But back then, the government didn’t have to actually sell 10-year Treasuries at 5%. The last 10-year note auction before October 23, 2023, was on October 11, and $35 billion of 10-year notes were sold at a yield of 4.61%. And the first auction after the debt scare came on November 8, and the $40 billion of 10-year notes went through the auction at 4.519%.

The last time when it took 5%+ to sell 10-year notes at auction was in June 2007. But at the time, the Treasury Department only had to sell $8-12 billion of 10-year notes per auction, and there were only 8 auctions per year. Now there are 12 auctions per year, and each is running in the $40-$50 billion range.

So the 10-year Treasury yield rose to 4.71% on Thursday, the highest since the three days in January 2025, and beyond that, the highest since the debt scare in October 2023, and beyond that the highest since 2007.

Note how the 10-year yield spiked to 5% in October 2023 during the debt scare (circled), and how blistering demand pushed it back down below 4% two months later.

The 10-year TIPS sold at auction on Thursday at a yield of 2.438%. TIPS holders also get the inflation compensation based on CPI that changes every month with CPI, which is added to the principal, and the principal grows with CPI, while the coupon interest payments are paid on the combined amount of original principal and the accumulated inflation protection, and so the interest payments rise.

In the secondary market, the 10-year TIPS yield closed on Friday at 2.43%. Those were the highest yields since the debt scare in October 2023, which was a few basis points higher, and beyond that, the highest yields since 2008.

The bond market – given the inflation dynamics, the massive flood of new debt that has to be absorbed, and the bloodbath it has already been through – remains remarkably sanguine still. It’s just squiggling a little. It hasn’t thrown a major hissy fit yet. So this would be a good time for Congress to sit up straight and start paying attention and act when there isn’t a crisis on hand. But it won’t sit up straight and pay attention until there’s a crisis on hand, like there was in the 1980s. And then the whole thing gets a lot more difficult to manage.

In case you missed it: Fed Chair Warsh scuttled forward guidance, markets are on their own. However this comes out, it promises to be a rougher ride, but in a fresh breeze: Bond Market Just Flipped to “Rate Hike in July” as 2-Month Treasury Yield Spiked by 13 Basis Points

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