Donald Trump is keeping capital markets around the world on their toes. Since his inauguration on January 20, 2025, the Nasdaq temporarily lost over 23 percentage points, the US dollar has slumped from EUR 0.96 to EUR 0.86, the WTI oil price has fallen from over USD 77 to below USD 60 and the barometer of fear, the VIX volatility index, has seen its biggest increase since the coronavirus crisis.
Above all, the seemingly non-negotiable introduction of reciprocal tariffs on imports into the US has led to enormous uncertainty in capital markets since its announcement on April 2, 2025. In addition to a basic tariff of 10% on all global imports, additional tariffs of up to 34% were announced on imports from China, for example, which were then increased to 245% over time.
As import tariffs are expected to make US goods more expensive for US consumers and relocation processes of production for many products, such as the Apple iPhone, are still unclear, economists worldwide have reduced growth expectations and increased the likelihood of a recession in the US. As higher prices can be expected in many product categories, at least in the short term, inflation expectations have also risen, increasing fears of stagflation – i.e. a period of low growth and high inflation – causing the capital markets to react very negatively.
The Trump administration’s initial lack of response to falling stock markets came as a surprise to many investors. The majority of market participants had apparently assumed that the administration’s pro-business policies would have an immediate positive impact on share prices.
But what led the US government to finally suspend reciprocal tariffs for 90 days on April 9, 2025, just seven days after “Liberation Day”?
As turbulence in the stock market was described as a necessary side-effect in view of the “liberation of the US economy”, it is reasonable to suspect that the enormous turmoil in the bond market was responsible for US administration´s change of course. In the wake of China’s countermeasures and the resulting looming trade war between the world’s two largest economies, US government bonds experienced one of the biggest losses since 2001. Within just one trading week, yields on ten-year bonds rose from around 3.9% to almost 4.5% – yields on thirty-year Treasuries came dangerously close to the 5% mark. It is precisely this level of interest on long-term government bonds that is an important indicator of a country’s creditworthiness for investors – the higher the interest rate demanded by investors, the lower the confidence in the sustainability of the government budget.
At over 36 trillion US dollars, the US national debt is currently accounting to ca. 122% of GDP. In addition, the US government continues to spend significantly more money than it takes in through taxes. According to the Congressional Budget Office, the budget deficit is set to exceed 6% of GDP in 2025. The US government therefore cannot ignore the turmoil in bond markets, as it is dependent on favourable loans from bond investors to finance its spending.
According to the US Treasury Department, US government bonds with a term of up to one year, known as T-bills, with a volume of over USD 6 trillion will reach maturity in 2025. Bonds with a term of up to 10 years, known as T-notes, with a volume of over USD 1.8 trillion will also expire this year. These maturing loans must be refinanced at the interest rates demanded by the capital market at the time of maturity. Rapidly rising yields on the US bond market therefore contribute directly to higher debt servicing in the USA, particularly in the case of T-notes, and can increase the budget deficit further.
China is also aware of the current situation in the US – according to the US Treasury Department, the People’s Republic holds US treasuries amounting to USD 760 billion, making it the second-largest international lender to the US after Japan. A sale of these bond holdings represents an additional theoretical bargaining chip, as this could contribute to higher bond yields. However, the Chinese government will consider such a step very carefully: a devaluation of both its own holdings of US government bonds and the US dollar itself, i.e. an appreciation of the domestic currency, cannot be in the interests of China as an export nation.
In our view, the bond market will ultimately decide whether the US government’s trade policy and unbalanced financial budget can be maintained in the future. In 2022, former UK Prime Minister Liz Truss had to painfully learn that the bond markets may enjoy less media attention than the stock markets, but they can exert pressure on governments much more quickly. When Truss presented her “mini-budget”, massive tax cuts were to be financed through additional borrowing in an environment of high inflation and rising interest rates. The bond market classified the budget as unsustainable. Yields on 10 and 30-year UK government bonds rose so sharply that pension funds were driven to the brink of bankruptcy by margin calls on derivative positions. Financial collapse was only prevented by the Bank of England’s courageous intervention. Liz Truss then had to resign. At 44 days, her term of office went down in English history as the shortest of all Premiers. Donald Trump will be aware of the power of the bond markets, not least because of the fate of Liz Truss. His administration will therefore likely keep a very close eye on the development of bond yields.
As we cannot rule out renewed turmoil in global bond markets in view of the massive geopolitical changes in the wake of the apparent trade war, we remain in risk-off mode for bonds. We continue to focus on short-term maturities, low interest rate risk, little default risk and high liquidity.
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