US Treasuries Fall as Inflation Angst Eclipses Haven Buying
(Bloomberg) — US Treasuries fell as conflict in the Middle East sent oil prices soaring, stoking fear inflation will accelerate and forcing traders to scale back wagers on the likely scope of interest-rate cuts.
Yields rose from the lowest levels in months as traders focused on the risk that the fighting reignites inflation — potentially dimming the chances of more Federal Reserve easing this year. President Donald Trump, who’s pushing for regime change in Iran, has said the bombing campaign that the US and Israel launched over the weekend could continue for weeks. Iran, meanwhile, countered with strikes across the region.
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Monday’s bond slump is on track to be the steepest since October. The two-year yield surged 10 basis points to 3.48%, while the 10-year rate rose 11 basis points to 4.04%. The yield on the long bond climbed less. In futures tied to the Fed’s path, traders now see roughly two quarter-point cuts by year-end, pushing a possible third reduction into 2027.
The slide marks a reversal from last week, when 10-year yields touched the lowest since April as tension between the US and Iran mounted, and as angst around the disruptive threat from artificial-intelligence roiled stocks. The start of the week drove home how the threat of hot inflation risks dominating the fixed-income outlook, rather than a rush to the shelter of US government debt, as typically happens in times of crisis.
“The risk reward for flight-to-quality buying isn’t there in fixed-income,” said Jan Nevruzi, a strategist at TD Securities. “In hindsight, rates markets might have been baking in some of the possibility of a geopolitical escalation.”
The selloff in Treasuries deepened following a report showing US manufacturing expanded in February while input prices soared.
European government bonds also fell on Monday and market gauges of inflation surged as the effective closure of the key Strait of Hormuz drove up oil by the most in four years.
US short-dated inflation swap rates surged along with oil. The rate on the one-year contract linked to consumer prices rose 12 basis points to 2.62%, mirroring a similar move in euro-denominated swaps.
More than geopolitical shocks, higher oil prices can “significantly” lift yields, a Deutsche Bank AG report last week showed. The strategists analyzed the largest geopolitical events of the last several decades, including Iraq’s invasion of Kuwait in 1990, the Sept. 11 attacks on the World Trade Center and Russia’s invasion of Ukraine.
A Monday report from Societe Generale SA strategist Manish Kabra, meanwhile, found that five oil supply shocks over the past 50 years had on average weakened the 10-year Treasury note over the following one week, three-month and six-month timeframes.
Treasury Yields React Mainly to Oil Shocks, Deutsche Bank Says
Investors must also weigh the potential impact on government bond supply, whether in relation to funding an extended military operation, or easing the inflationary burden on households and businesses.
At Fidelity International, portfolio manager Mike Riddell increased a position that will profit if long-dated Treasuries, which are more sensitive to fiscal risk, sell off.
“It’s been a trend for a while for governments around the world to subsidize energy and food prices,” he said. “This trend will only accelerate if the Middle East crisis persists or escalates, which makes long end sovereign bond yields vulnerable at current levels.”
February Rally
US government debt is coming off a strong February, which saw the 10-year yield sink back below 4% for the first time since November, while two-year yields fell to the lowest since August 2022.
That move and the focus on inflation help explain the rise in yields on Monday, said John Taylor, head of European fixed income at AllianceBernstein, in a Bloomberg TV interview.
Still, the haven properties of Treasuries may ultimately come back into play, he added.
“The longer this goes on, and if oil prices stay higher for a longer period, people will start to think about the negative economic consequences of that — and that could push Treasury yields lower,” Taylor said.
Iran’s security chief has said the nation has no intention of negotiating with the US. Blasts have been heard across Bahrain, Kuwait, the United Arab Emirates and Qatar as Gulf states intercepted missiles, underscoring how the conflict is spreading beyond the Islamic Republic’s borders.
Dollar Rallies as Oil’s Surge Curbs Bets on Fed Rate Cuts
While money markets pared bets on the chances of three Fed rate cuts this year, they broadly held course for that degree of easing by the end of 2027.
Some investors are already buying Treasuries as a safety buffer.
Franklin Templeton’s Andrew Canobi, added to Treasury holdings, mostly via futures. The Melbourne-based money manager said that if the situation persists or even escalates, then “markets will price for a classic downside scenario.”
–With assistance from Michael MacKenzie, Masaki Kondo and Naomi Tajitsu.
