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It is amazing how little attention is being paid to the rapid rise in interest rates in the US Treasury bond market. Given its potential to upset the mortgage market and impact the economy, investors might want to pay attention to the US Treasury market.

The chart below shows just how fast interest rates (in this case the yield or interest rate on 10 year Treasury Bonds) have risen. From a level of just over 2% in January 2009, they have risen by almost 90% since. This particular interest rate is watched by investors because it often serves as a benchmark for other interest rates. For example, if the Treasury yield is 5%, then a corporation would have to borrow at over 5%.

(Click Image to Enlarge - data courtesy of Stockcharts.com)

However, the tumult in the bond market in recent weeks has given rise to an event that many investors have never seen before – some corporate bonds are yielding a lower interest rate than those of the US government. As was mentioned above, the interest rate on a Treasury bond should serve as a benchmark for all other forms of debt. Instead, companies such as Johnson & Johnson (NYSE:JNJ), Berkshire Hathaway (NYSE:BRK.B), and Procter & Gamble (NYSE:PNG) have seen their two year bonds yielding less than Treasury bonds of the same maturity.

Part of the reason for this occurrence is that the bond market is signaling its concern about the mountain of US Treasury bonds being sold to help pay for the rise in government spending. It seems that appetite for US Treasury bonds is waning and as a result, we are seeing a creep up in interest rates rather quickly.

It is interesting, as noted in the chart above, that in the first week of last December, investors witnessed a rally commence in the US dollar index and a coincidental decline in gold prices. This is not surprising given gold’s inverse relationship to the US dollar – which is responding to higher US interest rates relative to some of the major European nations and the belief that the US will begin raising interest rates before Europe does.

One consequence of the rise in bond yields is that they tend to impact the economy just as an interest rate hike from a central bank might. Investors sometimes refer to a bond market that is experiencing rising bond yields as one which is run by the “bond vigilantes”. In effect, these vigilantes are taking monetary policy into their own hands and forcing interest rates up. If it continues, the vigilantes will force the Federal Reserve to abandon its easy money policy faster than many might expect. This would not help the gold stocks or commodities.

As was mentioned in previous writings, a rise in interest rates is not necessarily a negative if it is orderly and supported by a strengthening economy. As the Federal Reserve has begun to take steps to wind down its support measures to help the economy along, the markets will have to show that they can stand on their own without the support of central bank special measures.

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Source: Interest Rates Rising, Faster Than You May Have Noticed