CBO: US Federal deficits and debt to worsen over next decade

The CBO’s 10-year outlook projects materially worse U.S. fiscal outcomes: a 2026 deficit of roughly 5.8% of GDP (2025 deficit was $1.775tn), an average deficit-to-GDP of 6.1% over the decade rising to 6.7% by fiscal 2036, and public debt climbing from about 101% to 120% of GDP. Compared with last year, the 2026 deficit is about $100bn higher and cumulative deficits from 2026–2035 are $1.4tn larger; higher tariffs add roughly $3tn in revenue but lift inflation in 2026–29. The report also assumes much slower growth than White House projections (CBO pegs 2026 Q4 real GDP growth at 2.2% and ~1.8% average thereafter), underscoring rising debt-service costs that could crowd out investment and influence Treasury yields and policy debates ahead of the 2026 election.

Analysis

Market structure: Rising deficits (projected ~6.1% of GDP over next decade, debt-to-GDP to ~120% by 2035) implies persistent higher Treasury issuance and upward pressure on nominal yields, benefiting short-term bill issuance, inflation-linked securities, banks (wider NIM if rates rise) and commodity-linked sectors. Longer-duration growth/tech equities and long-duration corporate credit are exposed to higher discount rates and tighter credit spreads, while tariffs and onshoring incentives tilt capex toward domestic industrials and data-center REITs (supporting nominal demand for copper, steel, and power).

Risk assessment: Tail risks include a bond-market rout from a ratings downgrade or 50–150 bps faster-than-expected spike in nominal yields, and a fiscal impasse that triggers technical cash-flow defaults. Near-term (days–weeks) expect rate volatility around CPI/Fed/Fiscal headlines; medium-term (3–12 months) expect steepening and higher term premia; long-term (2–10 years) crowding out of productive public capex and downward GDP revisions as labour-force growth slows.

Trade implications: Favor TIPS and short-duration Treasuries (to lock real yields) and overweight financials and industrials; underweight long-duration growth and high-duration IG credit. Use relative trades: long XLF / short QQQ to capture steepening + rotation into cyclical capex, and buy protective puts on concentrated growth exposure. Time entries around CPI prints and 30–90 day windows after major legislative/tariff updates.

Contrarian angles: Markets may underprice the revenue-side effect of tariffs (CBO counts ~$3T revenue but flags inflation), so real yields could remain subdued if inflation expectations rise faster than growth — supporting select real-assets and data-center REITs (DLR) rather than pure commodity plays. Conversely, political response post-2026 election could produce fiscal retrenchment, offering a mean-reversion trade into long-duration Treasuries after steep sell-offs.

Key Decisions for Investors

• Establish a 2–3% portfolio position in iShares TIPS ETF (TIP) over next 30 days, averaging in on CPI-driven pullbacks; target hold 12–36 months, trim if 10-yr real yield falls >50 bps or TIP total return outperforms nominal Treasuries by 6%+.
• Overweight Financial Select Sector SPDR (XLF) by 3% vs benchmark and short NASDAQ-100 ETF (QQQ) by 2% as a pair trade for 3–12 months to capture steepening/rotation; set stop-losses at 10% adverse move and take-profit at 20% gain on pair spread.
• Initiate a 1–2% tactical short-duration rate hedge via ProShares UltraShort 20+ Yr Treasury (TBT) sized to limit portfolio duration risk for 3–6 months; reduce if 10-yr Treasury yield jumps >75 bps intra-month or if Fed signals easing.
• Allocate 1–2% to Digital Realty (DLR) or Core data-center REITs and 1–2% to XLE (energy) to play onshoring/AI capex and commodity upside; hold 6–24 months, exit if capex guidance is cut by >15% or if tariffs are rolled back.
• Buy 3-month 5% OTM puts on QQQ sized to 0.5–1% of portfolio as cost-effective downside protection ahead of CPI/Fed/election windows, and re-evaluate post-major fiscal-legislative events (30–60 day review).