Government bonds are facing renewed pressure as Brent crude oil surged above $106 a barrel, following President Donald Trump's rejection of Iran's latest offer to reopen the Strait of Hormuz. This decision has intensified inflation concerns, leading to a bond sell-off across global markets. The yield on the rate-sensitive US two-year Treasury bonds rose five basis points to 4.90%, while the 10-year yield climbed four basis points to 5.20%. Sovereign bonds also experienced declines in Japan, Australia, and South Korea, with UK 10-year gilt yields reaching 5.39%, their highest level since 2007.
This sell-off comes after a period of already surging yields due to hawkish comments from Federal Reserve officials and concerns about the "red-hot US economy." Analysts like Damien McColough of Westpac Banking Corp. noted that the "ongoing hawkish Fed messaging and oil above $100 are pivotal to the bearish impetus." The market is now pricing in three more interest-rate hikes from the Fed next year, with the possibility of a fourth. The flattening of the yield curve, with the extra yield on 10-year Treasuries over two-year notes shrinking to 17 basis points, indicates growing concern that Fed rate increases could lead to an economic stall.
The rise in oil prices, with Brent gaining almost 2% to $106.31 a barrel and US crude futures rising 1.7% to $94.10, is directly attributed to the geopolitical developments. President Trump's rejection of Iran's offer for diplomacy, reported by Axios and The Wall Street Journal, has renewed pressure on the Fed to raise interest rates to control inflation. This situation puts the focus back on upcoming economic data, including PCE, ISM, and payrolls, which will be crucial for determining the bond market's next moves and the Fed's policy decisions. Treasury Secretary Scott Bessent, however, has urged the Fed to consider productivity gains from AI and deregulation in keeping inflation in check.
