In the absence of substantial market news and amid high uncertainty, investors are advised against allocating funds to the U.S. Treasury market.
Recent comments by U.S. President Donald Trump regarding the Middle East provided a temporary boost to global markets, while futures markets scaled back expectations for Federal Reserve interest rate hikes this year. As a result, U.S. Treasury yields declined on Monday. However, investors remain cautious about future trends, emphasizing that stable Treasury yields are critical for the steadiness of U.S. equities.
John Briggs, an analyst at Natixis, stated, "The latest developments have not altered my outlook; I maintain a cautious and neutral stance. Given the lack of meaningful news and persistent uncertainty, it is advisable for investors to avoid deploying capital into U.S. Treasuries."
A Temporary Reprieve for Treasuries
By the close of trading in New York on Monday, the benchmark 10-year Treasury yield had fallen to 4.34%. Earlier in the session, it had reached its highest level since July of the previous year, as traders grew concerned that the Fed might not cut rates this year and could even raise them. The more rate-sensitive 2-year Treasury yield also finished lower at 3.84%, marking its largest single-day drop in nearly a month. Meanwhile, the 30-year Treasury yield, which had approached 5% during the day, retreated to 4.91%.
Despite conflicting statements from the U.S. and Iran regarding negotiations, markets continued to adjust. Brent crude futures fell below $100 per barrel, and the U.S. dollar weakened. Gregory Faranello, head of U.S. rates at Amerivet Securities, noted, "Rising oil prices pose a challenge for the Trump administration, and Treasury prices have been moving in tandem with oil."
Prior to Monday's rebound, a sell-off in Treasuries had pushed yields to multi-month highs. Escalating Middle East tensions fueled a surge in energy prices, heightening inflation concerns and leading traders to brace for potential rate hikes. As yields stabilized on Monday, traders reduced bets on a more hawkish Fed. Swap contracts now indicate expectations for a slight rate cut by year-end, whereas just a week earlier, traders had fully priced out rate cuts and increased expectations for hikes.
Investor Caution Persists Amid Rising Volatility
Even with Trump's temporary retreat, investors are preparing for further turbulence in the Treasury market. With no clear resolution to the conflict in sight and the vital Strait of Hormuz effectively closed, the market remains highly sensitive to any new developments.
Priya Misra, a portfolio manager at J.P. Morgan Asset Management, commented, "The market will closely monitor Iran’s next steps and whether vessels can actually resume transit through the Strait of Hormuz. At present, it remains very difficult for investors to trade U.S. Treasuries with full confidence."
Amid this uncertainty, intraday price swings in 2-year Treasuries have surged to their highest level since August of last year. Even Fed officials appear conflicted on how to respond to the Middle East crisis. Austan Goolsbee, President of the Chicago Fed, suggested that the central bank may need to either raise rates or consider cutting them again depending on how the situation evolves.
Michael Contopoulos, Deputy Chief Investment Officer at Richard Bernstein Advisors, maintains that "the likelihood of a Fed rate hike later this year remains quite high, as the central bank may find it necessary to curb demand to combat inflation." Accordingly, he favors holding AAA-rated floating-rate bonds and considers short-term Treasury bills "another attractive option for Treasury investors."
Reflecting ongoing uncertainty, Treasury yields resumed their climb during Asia trading hours. Short-term yields rose more sharply, indicating greater investor concern over inflation risks from the conflict rather than risks to economic growth. The 10-year yield increased by 4.4 basis points to 4.379%, while the 2-year yield rose 6.8 basis points to 3.897%.
Mislav Matejka, an equity strategist at J.P. Morgan, noted in a report, "Beyond oil prices, stability in Treasury yields is essential for U.S. and global equity markets to find their footing."
Global Bond Market Loses $2.5 Trillion in Value
Despite Monday’s brief rebound, aggregated data show that the global bond market has shed over $2.5 trillion in value since March. The total market capitalization of government, corporate, and securitized bonds has fallen from nearly $77 trillion at the end of February to $74.4 trillion, a decline of 3.1%—on track for the largest monthly drop since September 2022, when the Fed was in the midst of an aggressive tightening cycle. Government bonds have led the decline, with the Bloomberg Sovereign Bond Index down 3.3% since March.
Although the erosion in bond values is smaller than the approximately $11.5 trillion loss in global equities, the current downturn is particularly puzzling to investors given that bonds have historically served as a safe haven during periods of geopolitical unrest.
Kathryn Rooney Vera, Chief Market Strategist at StoneX Group, observed, "This may indicate that markets are beginning to price in stagflation risks. In my view, stagflationary trends are on the horizon."
Driven by higher energy costs and increased expectations for rate hikes due to the Middle East conflict, U.K. government bonds are facing their worst month since the historic sell-off triggered by former Prime Minister Liz Truss in September 2022. An index tracking traditional gilt portfolios has fallen nearly 5% this month, erasing £108 billion in market value. Even as U.S. Treasuries rebounded on Monday, U.K. gilts extended their decline, pushing the 2-year gilt yield to its highest level since February 2024. The U.K.’s reliance on energy imports makes it particularly vulnerable to supply disruptions, and traders now anticipate as many as four 25-basis-point rate hikes by the Bank of England this year.
Fabio Bassanin, an analyst at Morgan Stanley, stated, "The U.K. bond market has experienced one of its sharpest shocks in recent years due to the current conflict. Market conditions are likely to remain unfavorable for U.K. gilts."
Among Asian economies, government bond yields in India, Japan, and South Korea have also risen significantly amid the global bond sell-off. The 10-year Australian government bond yield climbed on Monday to its highest level since 2011, while the 10-year New Zealand government bond yield reached its highest point since May 2024.
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