Serious Money: It has been a difficult start to the summer for fixed-income investors.

The sell-off in global bond markets that began in March has gathered pace in recent weeks. The yield on 10-year US treasury bonds, which closed at 4.5 per cent on March 13th, exceeded 5 per cent for the first time in almost a year during the first week of June, bringing an end to the downward sloping yield curve that had persisted for more than 12 months - the yield on 10-year treasuries is now above one-year rates and the so-called bond conundrum appears to be over.

Meanwhile, stocks markets began to struggle once yields vaulted past the 5 per cent level. Investors have every reason to ask what caused the violent movements in the bond market.

A whole host of explanations have been put forward to explain the recent drop in bond prices and many are plain wrong. Higher inflation expectations do not provide the answer. While food and gasoline prices may well have contributed to a 7 per cent annualised increase in overall consumer price inflation during the past three months, it is quite clear that investors do not expect this to filter through to the core measure.

Indeed, the breakeven inflation rate on treasury inflation-protected securities has increased by less than 10 basis points since the spring, while gold prices have dropped in recent weeks.

Have Asian central banks lost their appetite for US treasuries? There is no doubt that pressure is growing on the East, notably China, to stop its accumulation of dollars designed to maintain its export competitiveness. And while a poor take-up of a recent auction of 10-year bonds is a cause for concern, the fact that the dollar has been appreciating suggests that bond market weakness does not emanate from the Middle Kingdom.

The true cause of the recent weakness can be traced to a dramatic revision of interest rate expectations and the knock-on effect in the mortgage markets. Economic growth has bounced back to 4 per cent in the second quarter, following the dismal performance during the previous three months and the Federal Reserve continues to warn that its primary concern is inflation and not growth. Unfortunately, the investment community had betted heavily on monetary easing by autumn; as the hopes for a reduction in short-term interest rates vanished, heavy selling was bound to ensue. Expectations, as reflected in futures prices, now foresee no reductions before the end of the year as compared with a cumulative half percentage point cut just weeks ago.

The recent turbulence in the bond market cannot be fully appreciated without an understanding of the US home mortgage market, which has undergone dramatic change since the 1980s.

The value of outstanding residential mortgage debt has grown almost tenfold over the past 25 years and a substantial increase in financial disintermediation has seen the percentage of mortgages in the hands of traditional depository institutions drop to less than a third. Roughly 60 per cent of the outstanding stock has been repackaged in portfolios and sold to investors - the vast majority at a fixed rate.

A fixed-rate mortgage loan has peculiarities that differentiate it from a typical default-free government instrument. American homeowners have the right to prepay their fixed-rate mortgages at any time without penalty. Consequently, investors are exposed to prepayment risk.

When long-term interest rates fall, prepayments typically increase and investors receive capital sooner than expected, which is then invested at lower market rates. Conversely, when the yield on long bonds moves, higher prepayments slow just at the time that investors desire more capital to reinvest at higher market rates.

The bottom line is that the price of fixed-rate mortgage instruments declines by more than treasuries of similar maturity when long-term interest rates rise and increase by less when yields fall.

It should come as no surprise that investors in the mortgage market attempt to hedge prepayment risk, but such activity can and does aggravate movements in the bond market.

Lower long-term interest rates shorten duration or the average life of mortgage investments.

To increase duration and provide a hedge against further decreases in yields, investors will reduce short positions and purchase long-term treasury bonds, but if expectations reverse as recently, mark-to-market accounting and the risk of capital loss ensures that the required reduction in duration will happen quickly through an increase in short positions and the sale of treasuries.

Fed research confirms the actions of mortgage investors accentuate movements in yields, particularly in rising rate environments but notes that the impact is short-lived.

Bond markets have settled down in recent trading sessions and the worst is probably over though the breakdown of a 20-year downtrend in long-term yields has caused some to question how high yields can go. Bill Gross, a renowned bond bull, has thrown in the towel. However, the notion that the long bull market is over and that the US economy is out of the woods is decidedly premature.

As the great general, George Patton, once said: "If everyone is thinking alike, then somebody isn't thinking."

It's time to buy treasuries.