Four signs it is about to get uglier in the bond market as yields rise

By Gertrude Chavez-Dreyfuss, Suzanne McGee and Laura Matthews

NEW YORK, Oct 9 (Reuters) - It is white-knuckle time in the bond market.

US Treasury yields have risen sharply since the war with Iran began in February, with the 10-year yield up some 135 basis points to 5.23% and the 30-year yield up around 110 basis points from its March ‌low to 5.614%. Both are trading at levels last seen more than two decades ago.

Investors are watching whether bond selling is starting to create its own momentum. Some key technical ‌measures suggest another surge to even-higher yields could be ahead, creating a feedback loop that amplifies the market stress, though there are also reasons to believe that buyers will soon step in, seeking to lock in yields at their most investor-friendly ​levels since George W. Bush was president.

"People in the market are recalibrating their expectations," said Dustin Reid, fixed income strategist at Mackenzie Investments.

Here are four signs that the selling could worsen.

Investors are seeking out protection against rising yields, referred to as the "payer skew," in the options market. Investors use these markets to insure their portfolios against a sharp move in yields without having to sell their Treasury holdings.

Demand for short-term protection against a jump in 10-year US swap rates has intensified, pushing the cost of insuring against a 200-basis-point rate rise over the next three months to 132 bps on Monday, the highest ‌since the March 2023 banking crisis triggered by the collapse of Silicon ⁠Valley Bank.

Swap rates refer to the cost investors pay to lock in a fixed interest rate instead of paying a floating rate.

While options are tied to swap rates rather than Treasury yields, the two typically move together, making the surge in payer skew an indication of concern about the risk of higher long-term ⁠Treasury yields.

Implied volatility, a key input in option prices, has climbed to 21.4 basis points for one-month options on 10-year swap rates, the highest since late March, reflecting growing uncertainty over the path of long-term yields.

A major contributor to the selloff has been a surge in corporate issuance to support the AI buildout, investors said. Spreads have remained tight, but buyers of longer-term bonds issued by AI hyperscalers are using the ​Treasury ​market to hedge their duration risk, a measure of exposure to rising interest rates — a practice that lately has ​spurred selling.