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A little understood signal in the fixed income market is drawing intense attention on Wall Street as investors confront the latest Treasury selloff. The term premium has surged to levels not seen in more than a decade, raising concerns that borrowing costs may remain elevated across the economy.

The term premium is the additional return investors demand for holding 10 year Treasuries rather than repeatedly buying shorter dated securities over the same period. It provides compensation for unpredictable developments that may strike before longer dated bonds mature.

Those risks can include geopolitical shocks and government fiscal crises. The premium is separate from expectations for inflation and monetary policy, although both of those factors are also reflected in Treasury yields.

Measuring the term premium is difficult because it cannot be observed directly and must instead be inferred through economic models. Neel Kashkari, president of the Federal Reserve Bank of Minneapolis, once compared it to dark matter, the invisible substance used by physicists to explain cosmic mysteries.

The recent increase has helped drive Treasury yields to a 24 year high. That move is feeding concern that a lasting shift in the market could place additional pressure on already battered bonds and keep financing expensive for households, companies and governments.

Frank Rybinski, head of macro strategy at Aegon Asset Management, sees a broad signal across the available measurements. “There's multiple ways to calculate it, but they're all going higher,” he said. “And what that tells me is that this move has staying power.”

There was no single clear catalyst for the surge. Barclays researchers led by Demi Hu cited macroeconomic uncertainty, unusual changes in the relationship between stocks and bonds, growing debt supply and fiscal policy concerns as factors that may be influencing the premium.

Neil Shearing, group chief economist at Capital Economics, said technical forces may also be involved. These included portfolio adjustments at the end of last month and possible spillover from mounting concern in Europe about France’s debt load.

Stephen Douglass, chief economist at NISA Investment Advisors, pointed to signs of strain in credit markets. He also cited wider doubts about the value of holding fixed income assets when inflationary shocks are becoming more frequent.

“It's not a simple story,” Douglass said while cautioning against placing too much weight on brief market moves. “But I would say that I think we are in a rising term-premium environment.”

For bond bulls, a structurally higher term premium is a serious threat. It could keep longer dated interest rates elevated and prevent the market from recovering from its slump.

The premium declined steadily during the 1990s as globalization exerted deflationary pressure. It fell further in the 2010s as central bank quantitative easing programs flooded global bond markets with cash and distorted pricing.

According to a model developed by economists working for the New York Fed, the measure dropped as low as negative 1.7% in March 2020 as investors sought the safety of bonds. It began moving consistently into positive territory after late 2024.

The premium remained relatively stable through most of the selloff that followed the start of the US war against Iran in late February. In mid September, however, it began climbing sharply.

The New York Fed model shows an increase of about 40 basis points to roughly 0.98%, the highest level since 2014. That rise was more than enough to explain the nearly 30 basis point increase in 10 year Treasury yields during the same period.

Bloomberg Economics produced a similar estimate. Another calculation that includes economists’ forecasts for Federal Reserve policy reached 1.08%, its highest level since 2010.

The sudden increase came while other major market drivers showed little movement. Inflation expectations remained stable, the Fed unanimously raised rates last month, and oil held within a narrow range despite trading above $100 a barrel.

A sustained rise would add to pressure from elevated inflation, robust economic growth and heavy borrowing. Companies are raising money to invest in artificial intelligence, while governments running deficits around the world are also adding to debt supply.

Fed Bank of Dallas President Lorie Logan said last week that a rising term premium could slow the economy by increasing borrowing costs. That effect could reduce the need for the central bank to raise rates.

Florian Ielpo, head of macro at Lombard Odier Investment Managers, said the market itself is applying pressure. “High term premia, inflation uncertainty and government borrowing needs can keep longer-dated yields restrictive even when the expected path of short rates becomes less aggressive.”

Possible near term forces include the disorderly selloff in French bonds and hedging by holders of mortgage backed securities. Behind those moves are longer term risks, including more frequent energy and commodity supply shocks as geopolitical divisions widen.

The federal government is also running a $2 trillion budget deficit, equal to about 6% of gross domestic product. The source described that as historically high stimulus during a period of low unemployment and solid economic growth, with little expectation of near term spending restraint.

“The macro picture is full of risk which should translate into a healthy term premium,” said Mark Malek, chief investment officer at Siebert Financial. “Any time we have a headline flair up, investors are reminded of that risk.”

DISCLAIMER: GoldInvestors.news is not a registered investment, legal or tax advisor or broker/dealer. All investment/financial opinions expressed by GoldInvestors.news are from the personal research and experience of the owner of the site and are intended as educational material. Although best efforts are made to ensure that all information is accurate and up to date, occasionally unintended errors and misprints may occur.