Forty Trillion Dollars and a Treasury Twist

A milestone was reached in the US last month as total national debt rose above $40 trillion, less than five years after the $30 trillion milestone. This came as 30-year bond yields rose to 5.3% in the US, the highest level since 2007. Although this level of yields was normal 20 years ago, the rapid increase in debt levels since then means that such yield levels today have a huge budgetary impact. With a reduction in fiscal spending (and debt levels) unlikely, Treasury Secretary Bessent intervened to support bonds in August – actions which initially helped provide stability to bonds, and supported stocks and gold, but the new Fed governor may have competing ideas.

High levels of US government spending are hard to curtail. Efforts to do so have not gained traction and, to the contrary, the White House keeps finding ways to cut taxes and spend more. The stockpile of debt is now so vast that interest on government debt is now around $1 trillion per year – comparable to annual defence spending – so it is fair to say that lower yields are needed to alleviate the cost of debt servicing. This is an issue affecting the entire developed world – indeed, UK 30-year yields rose to 5.8% in August, the highest level since before 2000. While hefty government borrowing has clearly been a major factor pushing up yields, Artificial Intelligence (AI) capex is also to blame. AI infrastructure investment needs to be funded, and the corporate bond market, rather than earnings, has increasingly been used, driving a major increase in bond supply this year, and creating competition between the government and the private sector for buyers.

While high spending has underpinned growth and corporate earnings (indeed, the second quarter delivered one of the strongest US earnings seasons in recent history) and provided fuel for global stocks, which are close to all-time highs, higher yields are clearly unwelcome. As such, Bessent has taken some notable steps to intervene over recent weeks. At the turn of the month, he helped to prop up the Japanese Yen after it reached its weakest level in over 30 years – actions which also supported US Treasury bonds. While at first this may seem tangential, Japan is the largest foreign holder of US Treasury bonds so partnering with them reduced the need for the Bank of Japan to sell their US bonds to raise dollars and buy Yen. Further steps were taken mid-August when the US Treasury announced it will increase the maximum size of buyback operations for long-dated bonds, which are conducted to aid the functioning of the market, from $2 billion per operation to $4 billion. These actions have a meaningful resemblance to the Federal Reserve’s Operation Twist in 2011 which was designed to lower long-term interest rates and support the economy. Markets reacted accordingly to these actions with reduced expectations of rate hikes, higher inflation expectations, and a weaker US dollar. Stocks welcomed the announcements, making modest gains, while it proved a great backdrop for gold and bitcoin which gained 10% and 25% in August respectively, following a volatile year so far.

However, there are some tensions between the Treasury Secretary’s approach to financial policy and Fed Governor Warsh’s most recent speech on monetary policy. Warsh gave a keynote speech at the annual Jackson Hole central banking conference at the end of August and reiterated his commitment to bringing down inflation, fuelling speculation about competing policy paths by putting interest rate hikes back on the agenda for the remainder of the year. The path of inflation will be key.

Oil prices, therefore, remain in focus for policymakers and investors and August proved volatile. Continued disruption to the Strait of Hormuz as well as fresh strikes at the end of the month between the US and Iran have kept oil elevated. Meanwhile, Venezuela’s Interim President Rodriguez has confirmed an oil deal which provides the US with majority control of 65 billion barrels of crude. This is one of the biggest energy deals in history and could ease pressure on US oil reserves, which now sit at their lowest level in more than forty years, but any impact is unlikely to be quick due to the lengthy process of extracting and refining, as well as the inevitable ebb and flow of negotiations.

Bottom Line

Rising bond yields are problematic for government finances, so much so that Treasury Secretary Bessent took steps to intervene in August. While helpful, the debt numbers are so large that even more powerful actions may ultimately be needed, especially if inflation pressures persist. We continue to see this backdrop as constructive for multi-asset portfolios, but volatile periods are likely as fragilities build and reinforce that we should not rely too much on generic bonds for diversification.

Noteworthy

Are the Magnificent Seven Worth the Expense?

The Magnificent Seven are a group of the largest and most influential US technology led companies and have become almost synonymous with an ‘expensive’ US equity market. On headline measures they are certainly not cheap, trading at around 30x forward earnings compared with roughly 22.5x for the wider US market and 20x for the market excluding those seven stocks. However, valuations should not be considered independently of the fundamentals supporting them. Consensus expectations point to earnings growth of around 23% for the group in 2026, approximately eight percentage points ahead of the wider market, while margins are roughly twice those of the broader index. Investors are therefore paying a premium, but in return are getting faster growth and higher profitability.

Much of the recent rally has also been supported by earnings rather than simply rising valuations, allowing some companies to grow into their multiples. Nvidia is perhaps the clearest example. Since 2023, its market value has risen by more than 1,000%, while earnings per share have increased by over 3,000%, helping its forward price to earnings multiple (P/E) fall from above 50x to the mid-20s despite the extraordinary rise in its share price. Comparisons with the dot com bubble are therefore imperfect, as today’s largest technology businesses are already among the most profitable companies in the world.

None of this removes valuation risk. At around 30x earnings there is less room for disappointment, while higher bond yields, extremely high AI investment, and increased debt issuance all present meaningful risks. However, describing the Magnificent Seven simply as expensive misses half of the equation. They command premium valuations because they offer premium fundamentals, with faster earnings growth, exceptional margins and exposure to a major structural growth driver in AI. They are not cheap, nor do they need to be. The greater risk is whether the exceptional growth implied by those valuations can ultimately be delivered, rather than the simple fact that they trade at a premium to the wider market.

Return of the Dollar Debasement Trade

In the main body, we noted the strong performance of gold and bitcoin following Scott Bessent’s intervention in support of long-dated US Treasuries but did not explore the underlying mechanics.

The so-called “debasement trade” became a prominent market theme in recent years. Persistently above-target US inflation, elevated government borrowing, a substantial debt burden and growing concerns over US policy credibility and predictability encouraged investors to reassess their reliance on dollar-denominated assets, including US Treasuries and the dollar itself as stores of value. This supported demand for assets perceived as scarce and less subject to direct state control, most notably gold and bitcoin.

Bessent’s intervention has, in some quarters, reinforced this narrative. Rather than actually resolving concerns over US fiscal sustainability, intervention in the Treasury market can be interpreted as evidence of the pressures created by continued government borrowing. The unexpected nature of the action also revived concerns over policy predictability. Against this backdrop, the debasement trade has returned to prominence, providing renewed support for gold and bitcoin.