US Treasury Yields Rebound After Iran Dispute Eases Oil Prices

Key Takeaways

• US Treasury yields rose sharply after a dispute between Iran and US President Trump led to a decline in oil prices.
• The two-year note's yield retreated to 3.80% after reaching a high of 4% earlier in the day, driven by rising oil prices.
• The sharp reversal began shortly after 7 a.m. in New York when Trump said that he had instructed US forces to postpone attacks on Iranian energy infrastructure.

Market Reaction

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The advance halted a selloff that had lifted US government bond yields to their highest levels in months earlier in the day. Treasury yields had risen as much as 11 basis points to exceed 4% for the first time since June, a move driven by rising oil prices. However, as the US benchmark crude contract tumbled as much as 14% after Trump's comments, those wagers were partially restored, and Fed-sensitive Treasury two-year yields retreated to 3.80%.

Impact on Inflation Expectations and Fed Rate Cuts

The oil crisis has driven up inflation expectations, leading traders to abandon wagers on Federal Reserve interest-rate cuts this year. However, as the US benchmark crude contract tumbled, those wagers were partially restored. Money markets had almost fully priced a quarter-point hike before Trump's comments, but expectations for Fed rate cuts this year collapsed last week.

Market Outlook

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Markets are likely to remain volatile as they await further confirmation on progress towards an end to the war or lasting ceasefire that would reopen the Strait of Hormuz. As measured by the Bloomberg Treasury index, the US government bond market lost 0.7% on Friday, its biggest one-day loss since April 7.