(March 27): Treasuries fell, lifting benchmark yields to the highest levels this year, as oil prices resumed the advance unleashed by the US war on Iran, which is entering its fifth week.
While the declines were at least pared, and short-maturity tenures erased their losses, the market’s initial response to oil’s rebound from a late-Thursday slump was a rise in two- to 10-year yields to the highest levels since mid-2025.
The 10-year rose as much as seven basis points to 4.48%, the highest since July, before retreating to about 4.44%, while the 30-year bond’s yield came within a basis point of 5%, also last seen in July.
Treasury yields have been rising with oil prices since the US attacked Iran on Feb 28, disrupting supply from the region. Yields and oil prices briefly slumped late on Thursday after US President Donald Trump extended a 10-day pause on strikes against Iranian energy sites, even as he cast doubt on the possibility of reaching a peace deal.
“Yields are moving higher along with oil as a 10-day delay isn’t good news, said John Briggs, head of US rates strategy at Natixis. “It’s another 10 days that the Strait of Hormuz is shut.”
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Higher yields reflect the potential for the related increase in US retail gasoline prices to show up in broad measures of consumer inflation, deterring the Federal Reserve from delivering interest-rate cuts that were widely expected before the outbreak of hostilities.
As long as the strait remains closed, investors will fear “inflation and a 2022-style response from central banks.” Briggs said. The oil shock from Russia’s full-scale invasion of Ukraine in 2022 contributed to an post-pandemic inflation surge that led the Fed to raise rates by more than five percentage points by mid-2023.
Market-based inflation expectations for the coming year, though off last week’s highs, have surged past 3% from about 2.2% at the start of the year. Swap contracts whose rates represent expectations for future Fed rate decisions no longer signal any chance of a cut this year and price in a more than 50% chance of a hike.
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“Markets have turned a full 180 and market participants have gone from asking when the next cut will be, to pricing in hikes in 2026,” said Molly Brooks, a rates strategist at TD Securities.
Friday’s declines set the US treasury market on track for one of its worst months in the past five years. As measured by the Bloomberg Treasury index, the US government bond market had a loss of 2.36% this month through March 26. Its last bigger monthly loss was in October 2024.
Upward pressure on treasury yields also stems from the prospect of increased borrowing by the US government, both to cover war costs and to refinance existing debt at higher interest rates, Citigroup economist Andrew Hollenhorst said a report.
Weak demand for this week’s auctions of two-, five- and seven-year notes “are a reminder that fiscal challenges rise with interest rates,” Hollenhorst wrote. “Large deficits are easier to finance when the Fed is expected to cut rates,” and “expectations for defence spending are rising.”
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