The Inverse Relationship Between Treasury Yields and Stocks, and Rising Rates Driven by the US Fiscal Deficit
Three reasons were given for why stocks fall when Treasury yields rise. First is the increased appeal of alternative assets: as the guaranteed interest on Treasuries rises, investors have less reason to take on the risk of stocks. Second is a wider discount rate: stock prices represent the present value of a company's future earnings, so when rates rise, the present value of future cash flows falls, pulling stock prices down. Third is rising interest costs for growth industries such as AI that are investing on borrowed money — concerns that higher rates could squeeze their capacity to invest have become especially prominent recently.
The principle that bond prices and bond yields move inversely was also explained. Treasuries pay fixed interest but are continuously traded in the market; when supply increases, prices fall, and since the purchase price falls relative to the fixed interest payment, the effective yield rises. Conversely, when demand surges on safe-haven buying and prices rise, yields fall.
The decisive reason US Treasury yields are currently rising (with prices falling) was identified as the expanding US fiscal deficit. As the deficit grows, more Treasury issuance is needed to cover it — in other words, supply increases, which pushes prices down and yields up. Indeed, the US 10-year yield climbed to 4.98%, nearing 5%, with short-dated maturities such as the 2-year rising even more sharply while longer maturities dipped slightly, a pattern interpreted as the market focusing on a single rate hike at the September FOMC meeting.
Still, the market's real focus is on whether this will be a single hike or a series of consecutive hikes. Most major investment banks — Bank of America, Citi, Deutsche Bank, Nomura, and RBC — are forecasting that one hike alone will not suffice and that two to three consecutive hikes will be needed, citing the 1988-1989 tightening cycle's 16 consecutive hikes and the fact that there has been only a single one-off rate hike since the 1990s. Foreign media framed this FOMC meeting as a test for Chair Kevin Warsh, warning that if he fails to provide clear direction, doubts could resurface over the Fed's actual policy leadership and independence.
The most favorable scenario cited was one in which the Fed raises rates this time but makes clear the cause is temporary — the war and rising oil prices — while signaling it will hold off on further consecutive hikes and monitor the situation. In that case, the resolution of uncertainty could actually provide relief to equities, and it was suggested that Monday's KOSPI decline itself may represent the market pre-digesting the burden of an anticipated rate hike.