Treasury yields have swung violently in recent sessions, yet five-year and ten-year inflation expectations remain steadily anchored near 2.4%.
Beneath the surface of inflation that appears contained, the Federal Reserve's tightening resolve, a pullback in AI-related debt issuance, and hedge fund position unwinding are driving a deeper repricing.
The U.S. Treasury market has recently experienced sharp tug-of-war, but unlike the wild swings in headline nominal yields, the core gauge of long-term market inflation expectations has shown unusual calm. The U.S. five-year and ten-year breakeven inflation rates have hovered near 2.4% recently, essentially flat compared with the start of the year.
Under the yield decomposition model, nominal yields equal real yields plus breakeven inflation rates. With breakeven inflation rates holding steady, the earlier climb in nominal rates was almost entirely driven by real rates. On this point, Matthew Hornbach, head of the rates team at Morgan Stanley, offered his interpretation: the market's maintenance of low breakeven inflation rates is not due to simple optimism about improving macroeconomic fundamentals, but rather investors betting that the Federal Reserve will keep policy rates restrictive for an extended period, using aggressive measures to suppress energy-driven price pressures, thereby pushing real yields higher.
Beyond the invisible hand of monetary policy, shifts in bond supply-demand dynamics and term premiums have also driven this reversal. The earlier surge in Treasury yields was largely attributable to massive government deficits and heavy debt issuance by tech giants for AI infrastructure. In its latest strategy report, Mizuho Securities analyzed that after the release of September inflation data, long-end yields showed a spike-and-retreat pattern, and even as U.S. equities subsequently rebounded, Treasury yields did not climb back, signaling that the "term premium" supporting long-bond yields since August is rapidly unwinding.
Overseas regulators have also expressed concerns about the structural fragility behind the bond market. Sarah Breeden, Deputy Governor for Financial Stability at the Bank of England, warned that the proportion of highly leveraged entities such as hedge funds in global sovereign debt markets has risen significantly, making localized turbulence easily amplified by leverage. Data from the U.S. Office of Financial Research corroborates this hidden risk, showing that hedge funds' share of Treasury holdings has hit a record high of 7%.
The recent deep pullback in tech stocks served as a catalyst for a short squeeze. According to Bloomberg statistics, amid risk-aversion sentiment triggered by a 5.5% single-week decline in the Nasdaq 100 Index, ten-year Treasury yields plunged by about 17 basis points. John Briggs, head of North American rates strategy at Natixis, analyzed that the slowdown in debt issuance by AI-related companies significantly reduced the capital diversion pressure on the long-bond market, and combined with trend-following strategy funds (CTAs) passively covering extreme short positions accumulated earlier, safe-haven buying and short covering formed a combined force, temporarily overwhelming selling pressure across the bond market.
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