Think of the Treasury market as a car's suspension. When the economy hits a pothole, scared money runs into Treasurys. Yields fall. Even a shaky borrower gets a cheaper loan next time. Spencer Jakab's column this weekend says the suspension is worn out. Treasury yields are near their highest in a quarter-century, and lenders have started asking for more on top.
Here's how the cushion normally works. A borrower's rate is the Treasury yield plus a spread. The spread is the extra yield lenders demand for taking a credit risk. When a slowdown looms, lenders get nervous and the spread widens. That widening gets the headlines. Jakab's point is that the all-in cost can still fall, because the Treasury part drops more. His example is the 2000 tech bust and the recession that followed in 2001. Spreads on investment-grade bonds rose about 1.8 percentage points then. The 10-year Treasury yield fell as much as 2.8 points, more than enough to offset it. Borrowers came out ahead.
This time both parts are rising. The 10-year closed Friday at 5.243%, near a quarter-century high. Economist David Rosenberg, quoted in the column, says this isn't a healthy rise, the kind where a hot economy pulls rates up. In his words, “Credit investors are starting to price in, at the margin, some default risk.” Headline growth looks strong, but Jakab says nearly all of it comes from AI data-center spending. Meanwhile trucking, housing, restaurants and retail are sending cautious signals. Those warnings don't usually arrive while Treasury yields climb. Now they do. Two more forces are at work. Investors worry about governments' long-term credit worldwide. And the Fed has talked tougher on inflation, so expectations for rate increases have jumped in the past six months, Rosenberg says.
What's different from 2022
The Fed raised rates hard in 2022, and spreads rose at the same time, much like now. No recession followed. Rosenberg's explanation is the $2 trillion in extra savings households built up in the pandemic. That cushion is spent. Governments carry trillions more in debt than they did in 2022. And AI companies hope to tap that same pool of savings for a few trillion more. Jakab doesn't hear alarm bells yet. But Rosenberg puts the odds of a recession in the next year and a half at “a flip of a coin.” That is one economist's view. We don't adopt it as a forecast.
Our read
Fixed Income (IN02). The rate a borrower pays has two parts, the Treasury yield and the spread. Right now, by Jakab's reading, both are rising. For a saver, that's a gift with a catch. Short government paper pays well with next to no credit risk and little price risk. That's why our safe money sits in Treasury bills and floating-rate paper (SGOV in 49 model books, USFR in 14). Long Treasurys stay avoided (TLT sits in 4 older books, nothing added). We'll be honest about the tension. If a recession does arrive, the textbook winner is the long bond we're avoiding. Jakab's own point is that this cushion hasn't worked in this episode. We won't bet that it starts working now.
If you own a lower-rated bond fund, the yield on the label is pay for a risk that Rosenberg says is growing. Know what you hold and why. Then there's the car. You check the shocks in the driveway, while the road is still smooth.