
Suburban mothers, cryptocurrency enthusiasts, and Taylor Swift fans are not the only groups making their influence known this election season. Bond investors are expressing their opinions through financial markets, and their sentiment is increasingly negative.
The term “bond vigilantes,” popularized by Wall Street veteran Ed Yardeni in the 1980s, describes traders who respond to large deficits by selling off bonds to increase yields. In a recent note, Yardeni, the president of Yardeni Research, and Eric Wallerstein, the firm’s chief markets strategist, highlighted that these bond vigilantes are acting early. They pointed out that the 10-year Treasury yield has surged by 63 basis points to 4.25% since the Federal Reserve’s announcement of a half-point rate cut last month.
Yardeni and Wallerstein indicated in their note that the bond vigilantes are indirectly expressing their dissatisfaction with Federal Reserve Chair Jerome Powell’s dovish monetary policy. They believe the economy is overheating, suggesting that the Fed’s premature 50-basis-point rate cut on September 18 might exacerbate this issue.
Prior to the initial rate cut, Treasury yields declined as investors anticipated an aggressive easing cycle to match the previous tightening cycle. However, following the Fed meeting, a significant reversal occurred.
The shift in sentiment has been so pronounced that several Wall Street analysts have warned that the central bank might halt further rate cuts. The change in perspective stems from signals by Fed officials and economic data that have reduced optimism for widespread easing.
Yardeni and Wallerstein also attributed recent market movements to the outlook on federal deficits, which have significantly increased. At $950 billion for the fiscal year ending September 30—a 35% increase from the previous year—this rise is mainly attributed to higher interest rates.
The bond vigilantes may also be targeting Washington, anticipating that regardless of which party controls the White House and Congress, fiscal policies will continue to inflate the budget deficit and potentially increase inflation. The next administration is expected to face net interest expenditures exceeding $1 trillion on the growing federal debt.
Concerns regarding the escalating federal deficit are widespread. Analysts at the Penn Wharton Budget Model and the Committee for a Responsible Federal Budget have predicted that policies by former President Donald Trump could lead to a more severe fiscal shortfall compared to those expected under Kamala Harris. Trump has suggested a series of tax cuts, including the potential elimination of income taxes, while proposing across-the-board tariff increases, which could be inflationary as companies pass on the added costs to consumers.
With Trump gaining ground in the polls, the bond market is increasingly factoring in his policies, which are expected to fuel inflation and widen deficits. This scenario is raising expectations of upward pressure on Federal Reserve rates and yields, with investors seeking larger returns due to a surge in new Treasury bonds.
Aside from the rise in Treasury yields, Yardeni and Wallerstein identified other financial market developments, such as increased federal funds futures, heightened inflation expectations via the 10-year TIPS rate, a stronger dollar, and a 33% surge in gold prices year-to-date. Gold has become an attractive hedge against rising inflation, excessive fiscal policies, and geopolitical instability.
Investors are purchasing precious metals to shield their portfolios from various risks. Additionally, foreign central banks, identified as adversaries in global politics, are increasing their gold reserves to potentially evade future financial sanctions.
Although bond vigilantes seemed inactive for years, especially when the Fed maintained low rates, Yardeni remarked last year that they were re-engaging with federal deficits as a focal point. Despite figures like JPMorgan CEO Jamie Dimon raising concerns about U.S. deficits and debt, neither Trump nor Harris has prioritized the issue during their campaigns, potentially amplifying the bond vigilantes’ influence.
The formidable influence of bond vigilantes was vividly demonstrated in the early 1990s. During this period, U.S. yields soared as investors sold Treasury bonds amid concerns about federal deficits, an episode famously known as the Great Bond Massacre. This power was epitomized by James Carville, an adviser to President Bill Clinton, who once expressed a desire to be reincarnated as the bond market due to its ability to intimidate all others.