Despite rising sovereign bond yields, corporate credit spreads remain tight as fiscal stimulus buoys corporations. This shifts credit risk from the private sector to governments themselves, creating a dangerous divergence where high-yield debt outperforms sovereign bonds, keeping the equity market propped up for now.

Despite recent concerns about private credit quality, the most rapid and substantial growth in debt since the GFC has occurred in the government sector. This makes the government bond market, not private credit, the most likely source of a future systemic crisis, especially in a rising rate environment.

Unlike previous financial crises where capital could flee to stable economies, the current spike in bond yields is occurring simultaneously in the US, UK, Japan, and Germany. This systemic issue leaves investors with nowhere to hide, amplifying global risk.

Forget political rhetoric; the bond market is the ultimate truth-teller on a nation's fiscal health. Rising long-term interest rates are a direct signal that the world's investors do not trust the U.S. government to pay back its loans without devaluing their money through inflation.

The primary risk from rising U.S. debt isn't that businesses and consumers will stop borrowing. It's that investors will reallocate capital from equities to high-yielding bonds, which now offer attractive returns. This shift in investor preference, not a traditional credit crisis, is the key market stress to monitor.

Unlike global peers where rising yields are tied to rate hike expectations, the US long-end sell-off is driven by an expanding 'term premium'. This signals investors are demanding more compensation for risks related to US fiscal sustainability, not just monetary policy.

For years post-GFC, QE created a reliable negative correlation between stocks and bonds, making treasuries a positive-carry hedge. The 2022 joint drawdown, where both asset classes fell sharply, proved this relationship is broken, forcing investors to pay for explicit portfolio insurance via options.

The dominance of leveraged hedge funds as the marginal buyers of long-term bonds means that during a crisis, bonds are sold off alongside equities. This forced de-leveraging negates their traditional safe-haven role, transforming them into a risk asset that falls during market stress.

For 40 years, falling rates pushed 'safe' bond funds into increasingly risky assets to chase yield. With rates now rising, these mis-categorized portfolios are the most vulnerable part of the financial system. A crisis in credit or sovereign debt is more probable than a stock-market-led crash.