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In July 1983, now more than four decades ago, Ed Yardeni first wrote about bond investors who hold governments accountable for fiscal profligacy: “If the authorities won’t regulate the economy, the bond investors will. The economy will be run by vigilantes in the credit markets.” After decades of dormancy, the bond vigilantes are back.
This is dangerous terrain. Left unchecked, they could push yields to levels that risk sovereign debt crises. With fiscal irresponsibility as the root cause, governments may face tough choices: slashing spending or raising taxes to placate markets. These measures, while necessary to stabilize debt, would deepen economic downturns.
Nowhere are these dynamics more evident than in the U.S. Having run the largest post-pandemic budget deficits, America’s net public debt stands at 99% of GDP, on track to surpass the World War II peak of 106% within a few years.
Many commentators expect a replay of Donald Trump’s first term, but today’s economic backdrop is vastly different. In 2016, bond yields posed little constraint. Inflation and growth were both anemic, supply was abundant, and globalization was seen as the culprit behind stagnation. Trump’s mandate was clear: stimulate growth and confront globalization.
Fast forward to today, and the landscape has flipped. Demand is robust, supply is constrained, and voters are less concerned about trade policy or globalization. Instead, inflation and immigration dominate the political agenda, setting the tone for Trump’s policy priorities. Markets expect a pro-growth, pro-tax-cut administration – moves that equities favour but bond markets do not.
As if on cue, bond yields spiked after Trump’s victory even while the Fed was easing, signaling the vigilantes’ return. Unlike his first term, this time the bond market will actively regulate the Trump administration’s fiscal actions.
The bond vigilantes are also back because of a deeper realization: inflation is no longer transitory but structural. While U.S. inflation has moderated from its June 2022 peak of 9.1%, the drivers of a structurally higher inflation regime remain firmly in place:
Vanishing economic slack: Tight labor markets and low unemployment are driving persistent wage pressures.
The end of globalization’s disinflationary effect: Reshoring, trade barriers, and geopolitical tensions are reducing the deflationary benefits of global supply chains.
Labour’s bargaining power: Workers now wield significant influence for the first time in decades, securing higher wages across industries.
If we are in a long-term inflation period punctuated by persistent supply shocks (rather than the demand downturns of the last few decades) and the return of the bond vigilantes, then developed market bonds will no longer stabilize portfolios as they once did. Instead, they’ll amplify volatility. The diversifiers that investors will need are inflation rather than deflation hedges.
Limit Western government bond exposure: A dominant investor trend over the last few years has been a rush into cash and fixed income. This will lose momentum as investors realize 2% inflation is now a floor, rather than the ceiling it was in the 2010s.
Stay short duration: Resist the temptation to extend duration, even during long-bond selloffs. Unlike the steady bond gains of the 2010s, today’s environment favours short-duration.
Hedge for inflation: The traditional relationship between real interest rates and gold has broken down. This is in large part due to global governments now hedging inflation risks and their feared weaponization of the U.S. dollar. Stay long gold but complement these holdings with real assets like industrial commodities, which thrive in inflationary conditions.
Tyler Mordy, CFA, is CEO and CIO of Forstrong Global Asset Management Inc., engaged in top-down strategy, investment policy, and securities selection. This article first appeared in Forstrong’s 2025 Super Trends Report: Fifty Shades Of Greatness. Used with permission. You can reach Tyler by phone at Forstrong Global, toll-free 1-888-419-6715, or by email at tmordy@forstrong.com. Follow Tyler on X at @TylerMordy and @ForstrongGlobal.
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Content © 2025 by Forstrong Global. All rights reserved. Reproduction in whole or in part by any means without prior written permission is prohibited. Used with permission.
The foregoing is for general information purposes only and is the opinion of the writer. The author and clients of Forstrong Global Asset Management may have positions in securities mentioned. Performance statistics are calculated from documented actual investment strategies as set by Forstrong’s Investment Committee and applied to its portfolios mandates, and are intended to provide an approximation of composite results for separately managed accounts. Actual performance of individual separate accounts may vary with average gross “composite” performance statistics presented here due to client-specific portfolio differences with respect to size, inflow/outflow history, and inception dates, as well as intra-day market volatilities versus daily closing prices. Performance numbers are net of total ETF expense ratios and custody fees, but before withholding taxes, transaction costs and other investment management and advisor fees. Commissions and management fees may be associated with exchange-traded funds. Please read the prospectus before investing. Securities mentioned carry risk of loss, and no guarantee of performance is made or implied. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting or tax advice.
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