US Treasury selloff pushes yields to multi-decade highs Citadel: Economic growth and AI investment intensify competition for capital

Title context: US Treasury selloff pushes yields to multi-decade highs Citadel: Economic growth and AI investment intensify competition for capital Text: Citadel Securities believes that the recent selloff in US Treasuries, which has pushed yields to multi-decade highs, is mainly DRIVEN not by market fears of further worsening inflation, but by sustained strong US economic growth, as well as AI investment and government deficits that have intensified competition for capital. The firm points out that even if inflation eases in the future, it may not be enough to drive a significant decline in US Treasury yields. Nohshad Shah, Citadel Securities' head of fixed income sales for Europe, the Middle East and Africa (EMEA), noted in a client report on Monday that almost all of the rise in the US 10-year Treasury yield in September came from higher real yields, while market inflation expectations remained relatively stable overall. This means investors are reassessing the strength and sustainability of US economic growth and demanding higher inflation-adjusted returns, rather than merely seeking higher yields to guard against inflation risk. US Real Yields Climb as Strong Economy and AI Investment Intensify Competition for Capital Shah said the US economy is currently supported by a combination of fiscal easing, relatively accommodative financial conditions and large-scale AI investment, factors that are driving real interest rates steadily higher. He noted that the market is "repricing the strength and sustainability of economic growth, and the level of real interest rates needed to accommodate that growth." In other words, what investors are demanding is a higher post-inflation real return, not simply more compensation for inflation risk. This logic is also closely tied to the current AI investment boom. Higher potential investment returns encourage tech companies to continue expanding AI infrastructure spending, but at the same time, financing these investments, together with the US government's persistent fiscal deficits, means competition for funds between the private and public sectors is intensifying further. In this situation, the market needs more savings to meet funding demand, or must attract capital through higher real yields. Therefore, even if inflation pressures gradually ease, US Treasury yields will not necessarily fall significantly as a result. Shah pointed out that this is precisely why he is unwilling to conclude that US Treasury yields have peaked simply because inflation has come down. At the same time, however, he noted that if yields are to rise significantly further from current levels, a new repricing of economic growth, the policy outlook or the term premium would be needed. Expectation of About Four Rate Hikes Over the Next Year Is "Reasonable," Inflation Stickiness Still Cannot Be Ignored Regarding the monetary policy outlook, Shah believes that given inflation remains sticky and US demand remains resilient, the market's current expectation of about four Federal Reserve rate hikes over the next 12 months is "reasonable." He is particularly concerned that fiscal support and strategically important AI investment may make some demand less sensitive to changes in interest rates. This means that even if borrowing costs rise, some investment and spending may continue to expand, thereby weakening the restraining effect of higher rates on economic demand. At the same time, deglobalization trends and supply constraints in the real economy may also limit the room for further declines in goods prices, making it difficult to fully offset persistent inflation pressures in the services sector. Therefore, in Citadel's view, the interest rate environment currently facing the US economy cannot simply be understood as "high inflation leading to higher yields." The demand for funds generated jointly by economic growth resilience, fiscal expansion and AI capital expenditure is becoming an important force determining the level of real interest rates. Rising Financing Costs Mean the AI Investment Boom Will Also Face a Test It is worth noting that the AI investment boom itself, which is driving real yields higher, may also be affected by the high interest rate environment. Shah estimates that about one-third of large cloud computing companies' capital expenditure this year was financed through debt. With real interest rates and financing costs rising steadily, how much cash flow AI projects can generate in the future will become increasingly important. This means that the sheer scale of AI investment is not enough to sustain the current boom over the long term, and companies will ultimately still need to prove that this capital expenditure can generate sufficient economic returns. Against this backdrop, Shah reiterated a preference for large cloud computing companies such as Microsoft Corporation (MSFT.US) and Alphabet Inc. Class C parent Alphabet (GOOGL.US, GOOG.US). These companies' business models do not rely solely on selling access to AI models, but have broader businesses and monetization channels, giving them stronger support in an environment of rising financing costs. Shah said the AI boom can support a higher real cost of capital, but "cannot make that cost irrelevant."