US Bonds Rally as Traders Bet on Fed Rate Cut Bets in About-Face

g{bgwf9l}{h30um5i)rh([u)_media_dl_1.png Bloomberg

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(Bloomberg) — The US bond market rallied back from its deepest selloff in 17 months as traders ditched wagers that the Federal Reserve will hike interest rates, with the focus shifting to speculation the Iran war will deepen an economic slowdown.

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The advance extended after Fed Chair Jerome Powell said the central bank has little control over supply shocks, like the surge in oil prices caused by US war against Iran. The late-morning comments eased concerns that the central bank would be forced to tighten monetary policy to keep inflation from accelerating, driving traders to start pricing in an outside chance of cuts this year instead.

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The about-face drove shorter-term Treasury yields down by more than 10 basis points, before paring the drop. That pulled the market back from its deepest monthly loss since October 2024, when investors were betting that President Donald Trump’s victory would pour fuel on the economy.

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The rebound reflects increasing angst that the conflict raging in the Middle East will deal a hit to the US economy, which has already seen job growth slow, as higher fuel prices drive up costs to businesses and consumers. That marks a shift for the bond market, where such concerns had largely been overshadowed by angst about an inflation shock that would tie the central bank’s hands.

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“Markets are unsure about how to react to recent geopolitical events — whether they should be reacting to first order inflation impacts or second order growth impacts,” said Gennadiy Goldberg, head of US interest rate strategy at TD Securities. “Not only are the geopolitical scenarios uncertain, but markets are even less certain about how the Fed will react to these scenarios.”

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The US rally was part of rebound across global bond markets that pulled down yields in Japan, the UK and Germany. In the US, two-year Treasury yields slid 9 basis points to 3.82%, while the 10-year rate slid about 9 basis points to 4.34%. 

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Some of the biggest bond funds in the US including Pacific Investment Management had warned that financial markets were underestimating risks an economic slowdown as inflation fears flared. Goldman Sachs Group Inc. said the probability of a downturn over the coming year has risen to about 30%.

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The war — now entering it’s fifth week — is showing little sign of ending even after the US extended a deadline for Tehran to agree to reopen the Strait of Hormuz. That left a key crude benchmark hovering over $110 a barrel on Monday.

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While Trump said in a social media post earlier that the administration is in “serious discussions” with the regime, he also revived a threat to attack Iran’s oil and electricity infrastructure if a deal is not reached. But Iran has consistently said peace talks aren’t progressing and has signaled it can carry on fighting for much longer, raising the risk of a prolonged conflict that would choke off key energy supplies to much of the world.

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“The Treasury market rallied this morning as investors have focused on the potential risks to global growth related to events in the Middle East, rather than simply trading the conflict through the lens of an inflationary impulse,” Ian Lyngen, head of US rates strategy at BMO Capital Markets, said. 

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—With assistance from Edward Bolingbroke and Michael MacKenzie.

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