Treasuries advanced as investors dialed back expectations for Federal Reserve interest-rate hikes following news of a deal to halt the Iran war.
The moves on Monday pushed yields lower on every tenor, led by shorter maturities that are among the most sensitive to changes in monetary policy. Swaps traders are now pricing in about a 70% chance of a quarter-point Fed hike by December, down from about 80% on Friday. Brent crude fell more than 5%, easing concern over inflation. The dollar fell.
Optimism for a resolution to the Iran conflict was driving markets, with investors focused on a potential reopening of the Strait of Hormuz and a decline in oil prices. The stakes extend far beyond the $31 trillion Treasury market, given US bonds serve as the global benchmark for borrowing costs, influencing everything from corporate debt to emerging-market assets. The dollar’s drop was tied to fading demand for havens.
“Investors believe the decline in oil price will reduce the need of more aggressive hikes by the developed market central banks,” said Fabio Bassi, head of cross-asset strategy at JPMorgan Chase & Co. “Investors are used to the ebb and flow of the news in the Middle East and therefore a lingering skepticism remains.”
Bassi expects the 10-year Treasury yield to end the year near 4.70%, and sees a rise above there as a buying opportunity for long-term investors.
Treasury two-year yields fell as much as seven basis points to 4.01%, while those on benchmark 10-year notes dropped by six basis points to 4.42%. Yields on 30-year bonds declined as much as five basis points to 4.92%, the lowest since May 7.
“Some of the short positioning in rates will be taken off,” said Matthew Haupt, a hedge fund manager at Wilson Asset Management in Sydney. “Central banks can now be less hawkish, as they can afford to wait and look through any short-term inflation.”
The US and Iran said they had reached an interim agreement to reopen the Strait of Hormuz, a channel for roughly a fifth of the world’s oil supplies. That will come as some relief for the US where consumer prices rose in April at the fastest pace in three years, putting the spotlight on new Fed Chairman Kevin Warsh and the central bank’s policies.
The Fed is due to announce its next policy decision on Wednesday with economists expecting the central bank to keep its benchmark rate in a range of 3.5% to 3.75% as it waits to see how the Iran war’s energy-price shock ripples through the economy.
Read: Warsh Caught Between Trump and Bond Market Bet on Rate Hikes
“In bond markets, based on the observed postwar correlations, a 10% decline in oil prices would lead to an approximate 13-basis point decline in US 10-year Treasury yields,” said Tomo Kinoshita, a global market strategist at Invesco Asset Management Japan Ltd.
Yields fell across Europe as traders trimmed rate hike bets for both the Bank of England, set to meet on Thursday, and the ECB, which raised borrowing costs by a quarter point last week, the first major central bank to do so. Asian bond markets also rallied.
‘Nervous Wait’
The dollar, meanwhile, fell to its lowest since June 5 as optimism over a deal to end the war lowered appetite for haven assets. Still, a Bloomberg gauge of the dollar is still up about 1.4% since the US and Israel attacked Iran in late February, and traders last week had an overall positive stance on the currency.
Both the US and Iran were already casting the deal in a different light, minutes after it was announced — showing how hard it will be to reach an agreement on the outstanding issues around Iran’s nuclear program.
“The Strait is expected to reopen on Friday, so there could be something of a nervous wait between now and then,” said Andrew Ticehurst, a strategist at Nomura Holdings Inc. in Sydney. “What Israel does in the interim could be a wild-card too.”
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