After the midterm elections, AI cools down and bonds benefit: 10-year US Treasury options bet on yields heading towards 4.35%

According to Zhitong Finance APP, this week’s US midterm elections saw the Democratic Party sweep Congress, triggering a massive sell-off in US large-cap tech stocks and driving up safe-haven demand, with US Treasury prices soaring across the board on Thursday.

This surge on Thursday pushed yields on Treasuries of all maturities down by as much as 12 basis points, reaching their lowest levels since early September, with Treasury futures trading volumes about 40% above the 20-day average. As safe-haven funds flooded into the Treasury market, the Nasdaq 100 Index plunged 6.4%, while the Philadelphia Semiconductor Index tumbled 12%.

In fact, last month the US Treasury market recorded its biggest rally in more than two years—investors lost confidence in the sustainability of capital expenditures on artificial intelligence infrastructure and began shifting from stocks to bonds.

"The decline in chip stocks is essentially the market continuing to digest the possibility of a slowdown in capital expenditure pace," said Anmol Sinha, Head of Fixed Income Investments at Capital Group. "This is the main driver of the current market trend."

Shift in Interest Rate Expectations: Bets on a 'Hold Steady' Decision Appear

In addition to pure safe-haven buying, the fading enthusiasm for AI infrastructure investments could also weigh on the outlook for a slowing US economy, further depressing market expectations for future Federal Reserve rate hikes in the coming months. The market fears that after the Democratic Party takes Congress with a larger-than-expected margin, it will impose constraints on the AI industry in January.

Although traders still favor a 25 basis point rate hike by Federal Reserve policymakers at their last meeting of the year on December 9, Thursday saw bets on a 'no change' decision emerge in the short-term interest rate options market; bets on further Fed rate hikes next year were also reduced on Thursday.

The Treasury options market, meanwhile, showed strong demand for additional yield hedging. Notable trades included a bet that the 10-year Treasury yield—currently around 4.82%, about 6 basis points lower on the day—would fall to 4.7% by the end of next week; another option expiring on November 20 targeted yields dropping to around 4.35%.

"In our view, today was a classic safe-haven move," said Gregory Faranello, Head of Macro Strategy at South Street Securities Holdings. "We’re not chasing duration at these levels for now, but we do respect the bond market’s performance relative to risk assets."

Tech Giants Still Competing with Treasuries for Funds

Notably, market enthusiasm for investing in large tech companies has not disappeared, as corporate bond issuance continues to compete with Treasuries for capital. On Thursday, Apple prepared to raise $7.5 billion in the company bond market through a seven-part issuance with maturities ranging from 2 to 10 years—its largest borrowing since 2021. Microsoft, Oracle, and Meta Platforms have jointly issued $50 billion in bonds recently.

Analysts commented: “In the post-midterm AI cooldown, the winner will be Treasuries—we’ve already seen that today. Perhaps the best way to describe this fast-moving market is: Tech is racing straight toward productivity’s endgame, while the real economy is still waiting for electricians and electricity.”

Oil Prices and the Labor Market Remain Variables

With Thursday’s rally, Treasury yields have returned to levels last seen from late September to mid-October—when rising oil prices, expectations of robust US economic growth, Federal Reserve rate hikes, and swelling debt levels pushed yields to multi-year highs.

Oil price volatility continues to impact the bond market. Over the past three days, oil prices have fallen by about 15%, as the market believes the election results could alter President Trump’s approach to the Iran conflict. Before the US stock market opened, Treasury yields rebounded briefly as oil prices bounced off two-month lows. Since the war broke out in February, supply shocks have reignited US inflation and prompted the Fed’s September rate hike, with oil prices largely guiding Treasury yields.

Weekly initial jobless claims data released on the same day revealed the resilience of the US labor market, and the October employment report, due Friday, is expected to show improvement over September—when new jobs fell short of expectations.

Cleveland Fed President Beth Hammack and Richmond Fed President Tom Barkin both publicly expressed support for higher interest rates. Last month, Hammack voted against the Fed’s decision to keep rates unchanged, arguing for a rate hike instead.

“The sell-off in yields since September has created substantial room for a rebound,” said Columbia Threadneedle Investments portfolio manager Ed Al-Hussainy. He believes that if October employment data is weak, the 10-year yield could further decline to 4.7% or even lower—the level seen in August.