Rethinking risk in US debt

The passing of the One Big Beautiful Bill may have brought jubilation to the White House, but it has given international investors pause for thought. By adding to the already vast US deficit, it is another reason to worry about the long-term prospects for US treasuries and the dollar. While the initial response from global financial markets has been relatively benign, it is increasingly difficult to see US assets as ‘safe havens’. 

For some fund managers, this is prompting a fundamental rethink. Where else can they look to for the low-risk part of their portfolio? At the same time, many emerging markets are pursuing far more orthodox fiscal policy than that of the US: their debts are lower, they are less exposed to geopolitical risks and their governments appear more stable. Is it really fair to suggest that these countries pose higher risks to investors than developed market countries where the debt burden is apparently out of control? Are these labels still useful? 

While no-one is implying that the US could default, there is the potential for some recalibration of the risk premium attached to different government debt. Gordon Shannon, manager on the TwentyFour Corporate Bond fund, says that the worries around the US have calmed somewhat given the adjustments the Senate have made to the Bill: “While we expect the deficit will continue to weigh on treasuries as a negative technical pressure in the coming years, we don’t expect the Treasury Department to start increasing coupon supply until next year. 

“According to projections, if you include the tariff revenue the bill itself is unlikely to increase the deficit (from a still too-high in our view 6.5%), while the now infamous Section 899 was delayed in the revised bill and there was no inclusion of Senator Ted Cruz’s suggestion to stop paying interest on bank reserves – a move we think would be highly disruptive to the banking sector in the US.”

He says that fear of foreign investors “de-dollarising” and dumping their US government bond holdings appear to have been overblown. Weaker US economic data is also taking the pressure off US government bonds. The US 10-year bond yield is up since the start of July, but only from 4.2% to 4.4%*. There has been greater pressure around among longer-dated bonds, with the US 30-year treasury yield currently flirting with the psychologically important 5%**. The dollar has seen a slight improvement in recent weeks. 

However, Gordon says there are still some major risks, particularly around the eventual replacement of Jay Powell as Federal Reserve Chair. Markets will be worried if Trump picks Treasury Secretary, Scott Bessent: “It is the Treasury Secretary’s voice that has been most influential in soothing market nerves around the tariff policy in recent months.”

Equally, even if the worst risks around US treasuries are overblown, they no longer look like the safe haven they once were. Bond markets are already becoming more discerning, says Jason Borbora-Sheen, manager on the Ninety One Diversified Income fund. 

He says a stronger relationship has emerged in developed market sovereign bonds between the financial position of the issuer, the indebtedness of a country, how much debt was owned by foreigners, and the performance of the bond in price terms. “That’s quite unusual for developed market sovereign bonds. It’s quite common among emerging market sovereign bonds and corporate bonds. This speaks to the fact that the old orthodoxies don’t apply anymore…investors can’t rely on whether something is called emerging or developed, sovereign or corporate; investors are paying attention to fundamentals.” 

There are ‘safe’ options within developed markets. Many fund managers have been backing away from the dollar and have sought out other currencies. Alec Cutler, manager on the Orbis Global Cautious fund, for example, says the yen may be as much as 45% undervalued. He has also taken a position in the Norwegian Krona: “It’s almost as cheap as the yen, but it is the safest currency in the world. They don’t have a national debt and a huge sovereign wealth fund.” 

David Coombs, manager on the Rathbone Strategic Growth Portfolio, has taken positions in Australian and New Zealand government bonds, hedged back to sterling. He says yields are higher than in the US or UK, and the risks may be lower. 

Jason has also found opportunities in emerging markets. “For emerging market local currency bonds, we prefer to own those on a currency hedge basis. We buy the local currency bond in a local currency format, hedge it back to sterling. This gives a higher yield than UK bonds, and a better total return, because there is room for better and faster rate reductions in some of those countries.”

Polina Kurdyavko, co-manager on the BlueBay Emerging Market Unconstrained Bond fund, says there is certainly opportunity in emerging market debt: “The most important trend from the perspective of emerging market fixed income is the continued trend of a weaker US dollar which is leading to stronger currencies across many emerging markets. This is a powerful theme in that it helps with inflation trends as well as providing cover for emerging market central banks to cut interest rates from what are punitively high levels of real rates in certain cases. 

“In turn, this can help the growth environment as well as local funding conditions. It is also helping to attract inflows into the emerging market asset class, both in local currency as well as in the credit space, creating a positive feedback loop.” 

That said, there are risks around the economic impact of tariffs for emerging markets, so investors need to be careful. For some emerging markets, with poorly diversified exports, the tariffs are a significant threat to their economic health. They cannot be seen as a direct substitute for US government bonds, but may still benefit from a recalibration of relative risks. 

The clear message is that fixed income managers are already adjusting their portfolio in response to the changing status of US government debt and the dollar. They are looking beyond labels to the fundamentals of individual bonds and currencies. It may be the start of a new era. 

*Source: MarketWatch, U.S. 10 Year Treasury Note, at 14 July 2025

**Source: MarketWatch, U.S. 30 Year Treasury Bond, at 14 July 2025