What the election, federal borrowing, and inflation
One Oak believes that investment-grade corporate and municipal bonds offer attractive oppor-tunities following the November midterm elections, particularly given today's elevated yields. However, the prospects for a sustained bond-price rally will depend less on which political party wins than on whether the election produces credible expectations of slower federal spend-ing growth, reduced borrowing requirements, and moderating inflation.
Investment-grade corporate bonds can offer substantially higher starting income. Corporate earnings and balance sheets remain important supports, but narrow credit spreads leave limited insulation if Treasury yields rise again. Stable benchmark rates, rather than an aggressive easing cycle, could be enough to permit positive total returns over time.
Municipal bonds present an interesting relative-value case. The Bloomberg Municipal Bond Index fell approximately 6.35% in the third quarter as rates rose and issuance remained heavy; its yield was roughly 4.78% at September end. The repricing was primarily interest-rate and supply driven, rather than a broad municipal credit collapse. High tax-exempt income and a possible moderation in new issuance could provide a foundation for recovery if Treasury yields stabilize. 1
Neither sector has the kind of documented, historical near-certain mid-term election rally like equities. A positive total return driven by coupon income is also different from an outright rise in bond prices.
If the mid-term election produces credible signs of slower deficit growth, less geopolitical disruption, improving inflation, or stabilization in Treasury yields, investor sentiment may improve materially.
The election will matter insofar as it changes expectations about federal spending, deficits and Treasury issuance. Democratic Socialists of America-backed candidates in 2026 advocate enacting enormously expensive federal programs, including Medicare for All, universal childcare, large-scale publicly supported housing and publicly financed energy programs. Depending on the broad outcome of the mid-terms the financial markets will weigh not only the proposals themselves but also their prospects for passage.
The same financial standard applies to Republicans. President Trump said October 8 that the United States would not attack Iran before the election. Continuing the present spending trajectory, or escalating military operations in Iran would likely raise borrowing and inflation expectations. A severe confrontation could also temporarily generate safe-haven buying of Treasuries.
Neither political outcome guarantees a particular bond-market response. 2 A new Congress would take office in January 2027, but bond investors are likely to reprice expectations immediately.3
The Congressional Budget Office (“CBO”) estimates that the federal budget deficit reached $2.0 trillion in fiscal 2026, approximately $218 billion more than a year earlier. 4 Federal outlays grew faster than revenues. In August, gross federal debt crossed $40 trillion, comprising approximately $32.3 trillion of debt held by the public and $7.8 trillion in intragovernmental holdings. 5
Interest expense makes these figures especially consequential. The government's net interest outlays approach $1 trillion annually and are projected by CBO to reach approximately $2.1 trillion by 2036. Interest expense is now among the three largest major categories of federal expenditure, alongside Social Security and Medicare, and exceeds defense spending. Some recent accounts report more than $1.1 trillion of interest in 2026; definitions of net budgetary interest and gross Treasury interest payments differ and should not be mixed. 6
The potential debt ‘doom loop’ is openly discussed in the financial press: heavier borrowing increases the dollar cost of servicing and refinancing debt; increased interest costs enlarge deficits; and additional financing must be absorbed by investors, potentially at still-higher yields. It is a serious structural risk.
A Federal Reserve Bank of Kansas City study published in April 2026 provides empirical support for the transmission mechanism. Using Treasury-futures movements around auction
announcements, economists Huixin Bi, Maxime Phillot and Sarah Zubairy found that debt-expansion shocks raise yields through higher term premiums, tighten financial conditions and crowd out private-sector investment and production, particularly during rapid debt growth. They also found that changes in Treasury debt maturity can produce different—and sometimes offsetting—effects. 7
For corporate and municipal borrowers, this is not merely a Washington budget issue. Treasury yields anchor much of the borrowing market. Even when Treasury auctions clear successfully, the yield demanded by investors influences the cost of raising capital throughout the economy.
The September Consumer Price Index (“CPI”), released October 14, showed inflation of 3.7% over twelve months, up from 3.4% in August; core prices rose 0.3% during September. Treasury yields jumped following the report. CME FedWatch probabilities for a quarter-point increase at the October 28th Federal Reserve meeting rose from approximately 22% before the release to 43.7% in an intraday snapshot; those probabilities change continuously as futures prices move. 8
This was not a synchronized global short-rate selloff: British gilt yields eased following Bank of England commentary, while some continental European yields reversed earlier declines after the U.S. figures. The message is not that every central bank will tighten together. It is that the U.S. inflation surprise reduces confidence in a quick decline in dollar interest rates. 9
A second pressure comes from Japanese investors. As Japanese domestic yields rise, the economics of holding currency-hedged U.S. debt become less compelling for some banks and insurers. The Financial Times reported October 14 that these institutions bought a net ¥5.4 trillion of Japanese government bonds with maturities of at least two years during the five months through August, while net foreign-bond sales accelerated. These flows do not prove a wholesale exit from U.S. Treasuries, nor an abrupt collapse in the yen carry trade; they do suggest more competition for the marginal international bond buyer. The dollar's strengthening against the yen after U.S. CPI also worked against an immediate forced unwind of yen-funded positions.10
Joseph H. Marren
Head of Research
One Oak Capital Management, LLC
1 Bloomberg L.P., Bloomberg Municipal Bond Index, quarterly total return and yield-to-worst statistics for the period ended Sept. 30, 2026 (as reproduced in contemporary fourth-quarter fixed-income market research).
2 Reuters, “Trump Says US Will Not Attack Iran Before Midterm Elections in November,” Oct. 8, 2026, https://www.reuters.com/world/trump-us-having-productive-talks-with-iran-will-not-attack-before-us-elections-2026-10-08/; Reuters, “Iran Shifting Tactics to Step Up Attacks on Shipping Before US Vote,” Oct. 14, 2026.
3 Democratic Socialists of America, 2026 national and local candidate endorsement materials; Denver Democratic Socialists of America, 2026 voter guide describing Melat Kiros’s healthcare, childcare, housing and Green New Deal proposals; candidate campaign platforms for Chris Rabb and Claire Valdez, 2026. Proposed programs are not enacted appropriations and their fiscal consequences depend on legislative design and financing.
4 Congressional Budget Office, “Monthly Budget Review: September 2026,” Oct. 8, 2026, https://www.cbo.gov/publication/61985; The Wall Street Journal, “U.S. Budget Deficit Jumps to Nearly $2 Trillion,” Oct. 9, 2026.
5 Reuters, “US Debt Crosses $40 Trillion Threshold After Doubling Under Trump and Biden,” Aug. 19, 2026, https://www.reuters.com/world/us-debt-crosses-40-trillion-threshold-after-doubling-under-trump-biden-2026-08-19/.
6 Congressional Budget Office, The Budget and Economic Outlook: 2026 to 2036, Feb. 2026; Congressional Budget Office, “Monthly Budget Review: September 2026,” Oct. 8, 2026; The Wall Street Journal, “U.S. Budget Deficit Jumps to Nearly $2 Trillion,” Oct. 9, 2026. Rankings depend on classifications and gross/net definitions.
7 Huixin Bi, Maxime Phillot and Sarah Zubairy, “Treasury Supply Shocks: Propagation Through Debt Expansion and Maturity Adjustment,” Federal Reserve Bank of Kansas City, Research Working Paper RWP 26-04, Apr. 10, 2026, https://doi.org/10.18651/RWP2026-04.
8 U.S. Bureau of Labor Statistics, “Consumer Price Index — September 2026,” Oct. 14, 2026; Reuters, “Hot September CPI Sends Rate-Hike Bets Soaring,” Oct. 14, 2026; Barron’s, “October Rate Hike Is Back on the Table After CPI,” Oct. 14, 2026, reporting CME FedWatch probabilities.
9 The Wall Street Journal, “Treasury Yields Rise on Higher-Than-Expected Inflation,” Oct. 14, 2026 (covering U.S., European, British, and Japanese government-bond responses).
10 Financial Times, “Japanese Banks and Insurers Return to Domestic Bonds as Yields Surge,” Oct. 14,2026, https://www.ft.com/content/8c7ded63-6232-44df-98ba-25a46422e56f; Reuters, Oct. 14, 2026, global markets reporting on USD/JPY.
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