Why bond yields and term premia are likely to remain high

To understand the recent surge in government bond yields and whether high yields are here to stay, it’s useful to look at the main yield components over a longer horizon. A 10-year government bond yield can be decomposed into the expected path of safe short-term rates and a broadly defined term premium that compensates investors for risks in holding the bond. Since 2020, more than half of the increase in advanced-economy government bond yields came from the term premium.

What you will learn:

• Term premia are now back to their mid-2000s levels – high compared to the last 10 years, but still low in a broader historical context.
• We find that an important driver is the strength of bond-stock co-movements. Across major advanced economies, bond-stock correlations were negative for most of this century but turned positive again in Q3 2023 and have risen steeply since.
• This means bonds are a worse hedge against stock returns – similar to the 1980s and 1990s – so that investors require a higher term premium as compensation, but now also for inflation-indexed bonds.
• We think the bond-stock correlation and bond term premia will remain high because we’ve entered an era of more frequent supply shocks and more hawkish central banks.

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