Long-term interest rates have moved sharply higher over the past several months. As of Sept. 30, the 10-year Treasury yielded 5.26%, and the 30-year Treasury yielded 5.64%. Those rates matter well beyond the bond market because they influence mortgage rates, corporate borrowing costs and, ultimately, the federal government’s cost of financing its debt.
Interest rates have been rising for a combination of reasons. Inflation remains elevated, which led the Federal Reserve to raise short-term rates again in September. At the same time, geopolitical conflicts have pushed energy prices higher and increased uncertainty about future inflation.
Investors buying a 10- or 30-year bond must consider not just where inflation is today, but where it could be for decades. The greater that uncertainty, the greater the return investors generally demand for committing their money long term.
Government borrowing is adding another layer of pressure. Because of deficit spending, the U.S. Treasury has issued approximately $1.5 trillion in net new marketable debt through the first nine months of this year. Including the refinancing of maturing securities, the scale is much larger. The Treasury issued approximately $21.8 trillion in marketable securities through August, much of it replacing debt that matured during the year. Refinancing existing debt is also becoming increasingly expensive. Approximately $10.8 trillion in marketable Treasury debt is scheduled to mature over the next 12 months. That debt has an estimated average financing cost of about 3.4%.
Refinancing it at today’s rates would cost roughly 4.2%, potentially adding more than $80 billion a year in interest expense on that debt alone. As interest expense consumes a larger share of the federal budget, fewer resources remain for other government priorities unless tax receipts rise, spending is reduced elsewhere or the government borrows even more.
Higher interest rates also have a bright side. For investors, fixed-income securities are offering yields that are considerably more attractive than they were for much of the past decade. After a long period when bonds offered relatively little income, fixed income is once again playing a more meaningful role in the investment landscape.
For our clients, the takeaway is not that we need to predict exactly where interest rates go next. Higher yields simply give us more choices when building portfolios. Depending on your income needs, time horizon, tax situation and tolerance for interest-rate risk, we can evaluate whether it makes sense to lock in some of today’s yields for longer periods rather than keeping fixed-income investments concentrated in short-term securities.
