Every Tuesday afternoon we publish a collection of topics and give our expert opinion about the Equity Markets.

Last week, President Trump abruptly paused his sweeping reciprocal tariffs on all countries except China. While the media spotlighted the stock market's dramatic rebound, the real catalyst was the bond market's upheaval, which saw yields on U.S. Treasury spike significantly, signalling a deeper financial tremor that forced the administration's hand.​ ABSI this week explains why the Balance of Payments and bond yields caused Trump to blink. 

Tariffs are all that anybody is talking about right now. They have sent a financial tremor around the world, causing economists to scream recession. Following the April 2 tariff announcement and subsequent pause, stock markets have been on a rollercoaster of volatility. Treasury Secretary Bessent has said multiple times that the Trump administration isn’t influenced by the gyrations of the stock market but is laser-focussed on movements in the US bond market as that dictates the cost of debt on the US$36 trillion and counting debt burden.  

In the initial wake of the tariffs, the 10-year Treasury yield dipped below 4%, reflecting a flight to safety and the inverse correlation of bonds to equity. This was having the desired effect for Secretary Bessent and would shave off billions in interest. However, this victory was short-lived. By April 11, bond vigilantes had stepped in and yields surged to 4.48%, marking the largest weekly increase since 2001.

Source:  Trading Economics

This surge wasn't just a market fluctuation; it was a loud warning. The rapid rise in yields indicated that investors were demanding greater compensation for holding U.S. debt, reflecting concerns about fiscal stability.​

At the heart of this issue is the balance of payments, which comprises the current account and the capital account. A current account deficit, where a country imports more than it exports, is offset by a capital account surplus, meaning foreign investors purchase U.S. assets like Treasury bonds so that the deficit can be financed. It is exactly like your own personal budget; if you spend more than you earn, that extra spending needs to be financed.​

What the market has digested in tariff economics is that potentially shrinking trade deficits means shrinking capital surpluses and a reduction in the capacity and willingness to invest in US debt.

The US has enormous economic leverage over the rest of the world due to the size of its consumer economy. Everybody wants to sell their goods in this affluent market, which is why Trump wants to enact a toll on access to American consumers. However, after decades of US trade deficits and US$36 trillion in debt, the rest of the world also has the leverage to fight back.

Source: FRED

As of Q4 2024, US federal debt held by foreign investors totalled ~US$8.5 trillion or about 23% of debt outstanding. Japan is the largest holder with over US$1 trillion, with China coming in 2nd at ~US$770 billion and the UK 3rd at ~US$765 billion. By picking a fight with the world, Trump has painted a target on the back of US bonds. Foreign investors could, and probably are, revolting against tariffs by selling off their US debt exposure, causing prices to plummet and yields to spike. 

Furthermore, the US will have to continue to refinance and issue new debt unless it gets its budget in order, which should cause further headaches for the economy. The credit default swap (CDS) market, insurance against default, has taken notice with 6-month spreads on US debt reaching 70 basis points, indicating heightened investor anxiety about U.S. creditworthiness.

If investors are selling US debt, then what’s the alternative? 

Gold has been the only real winner as it is rapidly being seen as the only alternative to the US dollar and debt. Gold prices have surged to a new all-time record high of US$3,245/oz and will likely continue to track higher until a resolution is found. The major US investment banks keep resetting their price targets on the precious metal, with Goldman Sachs seeing an upside tail-risk scenario of US$4,500/oz. 

The bond market's reaction to the tariff announcements was a clear signal that financial markets are sensitive to policy decisions that affect economic stability. While the stock market's movements are more visible, it's the bond market that will be watched closely by the Trump administration in how it will proceed from here.

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