Blain’s Morning Porridge September 3^rd, 2026 – What’s the real crisis in Bonds?

“These are not the droids you are looking for…”

The media has us all convinced Western Economies are on the verge of a bond meltdown. However, what is really happening is The Great Bond Market Normalisation – a return to real interest rates that reflect the global economy and where nations are. The big risk is that repricing government bonds will crash currently absurd valuations across other financial assets – precipitating a wider market crisis.

LINK TO PODCAST

Key Takeaways:

• The Bond market is not the crisis – worry about what happens to financial asset valuations when the risk free rate normalises after years of financial repression (ultra-low rates). That will hurt. There is a systemic feedback loop of rising rates forcing revaluations.
• Current bond yields are not extreme. They are low by historical standards.
• Western nations are not going to default on high debt levels, and the fears about bond vigilantes are over-exaggerated. They are magnified by politically motivated media.
• Inflation, demand and supply and the economic outlook will be key drivers of rising yields – and always have been, except in periods of financial repression – as we saw from 2008-2023.
• The UK is vulnerable due to low growth post Brexit, but its bond market is fundamentally in better health with a longer duration than most. Rising gilt yields have been magnified into crisis by hostile right-wing media and political posturing. Look past it.

Markets are uncertain. Yields are rising. Debt quantums are uncomfortably high… What’s really going wrong in the bond markets?

Calm. Relax. Things are never as bad as we fear…

This is normal. Markets haven’t been normal since around August 2007 – when we saw the run on UK mortgage bank Northern Rock.

10-year bond rates are now substantially above where they were through the Quantitative Easing era (2008-2023) but are still well below the rates we’ve seen through previous economic cycles. The rising panic about how swiftly rates are rising is being fuelled by politically driven headlines warning on imminent economic catastrophe, telling us markets are losing confidence in governments to stem a bond market sustainability crisis.

That I doubt. I have seen crisis. I have seen them addressed. I have limited doubts they will be addressed here in the UK equally effectively now and in the future. (Rising political polarisation makes me less certain about how the US will solve any crisis… but that’s a discussion for another day.)

Think not of today’s rising rates as a crisis – but as normalisation. Today the Bank of England’s base rate is 3.75%. From 1975-2007 (the beginning of the Global Financial Crisis), the bank rate varied between 3.5% and 17% at one stage! (My mortgage rate was in double-digits and briefly a 2 was the big figure!)

One big difference driving the frenetic mood of imminent crisis and fears of financial Armageddon are the headlines and the way Blitzkrieg politics are being played.

Take a glance at the papers this morning:

• “City Warns Burnham of borrowing shock unless he slashes spending.”
• “Reform to save £100 bln in first 100 days in office”
• “UK economy at risk as bond yields send “clear warning””
• “Andy Burnham dealt bond market blow…”
• Even the leftish Guardian admits “Burnham tries to calm the bond market…”

Yesterday there was a meme going round the market about the UK needing an IMF bailout – some wag spotting the UK’s current chancellor John Healey shares a surname with Denis, the remarkably eyebrowed chap who went to Washington in 1976 for a loan to prop up foreign currency reserves. It was a standby loan that was never drawn – merely applying for it stabilised the situation but destroyed Labour’s financial credibility for decades. When Tory minded chums bring it up, I give then a detached look and simply say…  Liz Truss.

The FT quite properly comments on the Gilts wobble in its political section, and is much more concerned about what soaring JGB yields will mean for global markets… As am I.

For all the talk of bond vigilantes (40 years in the market and I’ve still never met one) or how the City is losing confidence in Gilts… the reality is much of it is politically driven. The rich guys who own the media have a vested interest in destabilising governments who may have the temerity to propose taxing them. GB News could teach Pravda a trick or two about the destabilisation of Western democracies through agitprop.

The bond market reality is that no serious government bond investor fears imminent default by a Western Financially Sovereign Nation.

The UK and Japan are not going to stop paying interest and principal on Gilts and JGBs – they will simply print money to ensure they do. The French don’t actually have the keys to the OAT printing presses – these are controlled by Brussels – but they will shout, scream and hold their breath till the ECB in Frankfurt ponies up the dosh. However, I will admit it’s not a zero probability the American’s might do something profoundly stupid like withholding payments on Treasuries to nations the president takes an irrational dislike to. (That really would be the end of times that JD Vance says he expects shortly…)

Much of the noise around rising yields is just that… noise.

But… rising bond yields will have enormous consequences for market valuations across all financial assets; corporate bonds, stocks, private markets, and that’s the big issue markets need to wake up to. That’s why rising government bond yields are so dangerous – and why markets are increasingly seeking to hedge. That’s the big risk – that fear of a reval, creates it!

Government bond markets, which set the underlying risk-free rate from which all risks are priced, price off a complex set of inputs. The basics are the future value of money (inflation), the economic outlook (sentiment), and demand and supply. When the economy is booming, and inflation risks are rising, then rising rates are normal to stem the pace of price rises. When the economy is slowing, rates should decline as the inflation threat diminishes. But it’s much, much more nuanced than that… there are times when all the factors that set yields act against the conventions. That’s why stagflation – recession and inflation, where the frictions in the real economy come into play – tends to overturn cosy assumptions.

At present there are a host of market reasons for rising bond yields:

• Bond investors are shortening duration because all the indications are that inflation is set to rise due to sustained high oil prices, the result of The Strait of Trump (You have to laugh… but yes, Trump actually said it…)
• Markets are nervous the supply of government bonds will rise if governments are forced to intervene in the event of recession.
• They are also buying less government bonds in general – seduced by attractive yields from other investments including the alternative market of private debt and equity. (You can add the “crowding out” concerns about US AI infrastructure costs to the mix.)
• Markets fear the consequences of higher interest rates on the ultra-high market valuations given to corporate bonds, private capital markets, and equities. As the risk free rate reprices, the price of all these financial assets will reprice. (The good news for government bonds is that in time of crisis they should be safe-haven assets… but that is increasingly debatable.)

Let’s take a quick look at UK interest rate history to show how bond yields react to real events rather than politics.

Through the war years, and into the immediate post war recovery, average UK rates were around 2% in the 1940s – deliberately repressed to boost the war effort, although government were very concerned investors would not fund gilts or war bonds.

As the economy began to take off through the 1950s, rates rose to 4% and then 6% in the 1960s as the “white heat of the technological revolution” (as described by Harold Wilson, Labour prime minister) looked as if it might create a boom economy! (Dream on… as the Proclaimers sang; Linwood no more, Methil no more…)

By the 1970’s inflation had taken hold, oil prices spiked, the economic boom fizzled, and as inflation hit 25% (!!!) stagflation was nailed on. The UK failed to maintain growth in the face of global competition (did anyone outside the UK ever buy a Leyland car?) and rates averaged 9.5% before rising even higher through the 1980s to 11.7% as the economy was resized by Margaret Thatcher, monetarism took hold, and the UK struggled even as the London centric Yuppie boom took hold creating division and inequality.

Rates peaked during the Soros/Scotty Bessent attack on sterling and the great ERM debacle in 1992, but fell through the decade averaging 8%, before the great moderation of falling inflation through the 2000s until the GFC triggered massive global government interventions to repress interest rates to effectively zero (extended by Covid). Inflation vanished (except in financial asset prices) and China, as the World’s cheapest manufacturer of everything, exported deflation around the globe.

As mentioned, the big change is politics. In the past Politics was regarded as a stable factor – politicians were expected and generally did the right thing, i.e. what their Treasury departments told them to do. But today political competency has become a thing. Hence my Virtuous Sovereign Trinity theory – any nation with a stable currency, a sustainable bond market and political competency will keep its head above water.

At present the Labour party is under enormous pressure in the media. They are presented as incompetents, spendthrifts, about the spend the nation into a bond crisis, waking up the bond vigilantes… blah, blah, blabbity, blah blah… The reality is its taken decades for the UK to stumble into its current mire… and yes, Sir Keir Starmer was a great disappointment. But Rachel Reeves stuck to her fiscal rules, and it seems so will John Healey.

Perhaps what is required is more imagination, better presentation of the plan to repair broken Britain, defend this sceptred isle, and create conditions for growth. With the exception of the Greens there isn’t a sensible politician in the UK who would argue against solving the housing crisis and defending the nation – ideas that need big spending commitments. Done well they will create growth.

And don’t forget the Bank of England still holds some £490 bln of Gilts which it purchased during QE. Effectively they are an asset on the national balance sheet and a liability on the Treasury. Match them off, and you just reduced the UK’s Debt to GDP significantly. (I call it Zonk Theory – look it up on Morning Porridge Web Site.)

Out of time, and back to the day job… (No porridge tomorrow – got a race boat to prepare!)

Bill Blain

Author of the Morning Porridge
CEO Windshift Capital
Advisor – Spitfire Strategic Capital

Meanwhile, don’t forget about my new book: The Battle for Hamble

You can read a review on the Society of Professional Economist’s website here.