A selloff in Treasuries resumed on Monday, driven by rising oil prices after President Donald Trump rejected Iran's latest proposal to reopen the Strait of Hormuz. This rejection heightened inflation concerns and bolstered expectations for the Federal Reserve to continue hiking interest rates. Yields on rate-sensitive US two-year bonds increased by five basis points to 4.90%, while the 10-year yield climbed four basis points to 5.20%. Sovereign bonds in Japan, Australia, and South Korea also experienced declines.
Brent crude oil gained almost 2%, reaching $106.31 a barrel, as Iran maintained its conditions for reopening the Strait of Hormuz. This situation puts renewed pressure on the Federal Reserve to raise interest rates to control inflation. Despite rejecting the offer, Trump indicated that negotiations are expected to resume this week, according to Axios. Damien McColough, head of fixed income research at Westpac Banking Corp., highlighted that "The ongoing hawkish Fed messaging and oil above $100 are pivotal to the bearish impetus."
Swap markets are currently pricing in three additional interest-rate hikes from the Fed next year, with the possibility of a fourth. The bond market is nearing a point where Federal Reserve rate increases could lead to a stalling of the US economy. The extra yield investors demand for 10-year Treasuries over two-year notes narrowed to just 17 basis points last week, the slimmest gap since early 2025. This flattening of the curve suggests that a curve inversion, where longer-term yields fall below shorter-term yields, may occur soon. Treasury Secretary Scott Bessent has urged Fed policymakers to remain "open-minded" on interest rates, suggesting that productivity gains from artificial intelligence and deregulation could help manage US inflation.
Prashant Newnaha, senior Asia-Pacific rates strategist at TD Securities in Singapore, noted that "President Trump knocking back Iran’s offer for diplomacy is driving a renewed rise in oil prices and is weighing on USTs." He added that the Middle East gridlock is likely to remain the market's focus until the release of PCE, ISM, and payrolls data later in the week. The Wall Street Journal reported that negotiators are pushing Iran for concessions on its nuclear program to revive peace talks, an issue Trump has prioritized.
