The US Treasury market is sending a clear signal to Fed Chair Powell: A strong stance against inflation is far from enough to appease investors.
The July escalation of the US-Iran new round of military conflict caught Wall Street off guard, with international oil prices briefly surpassing $100 per barrel and once again triggering massive sell-offs in this $30 trillion US Treasury market. The yield on the 10-year Treasury note has risen by over 30 basis points since the end of June, reaching around 4.678%, approaching a near-decade high. At the same time, the yield on the 2-year Treasury note, which is most sensitive to monetary policy, has also climbed to around 4.328%, surpassing the Fed's current 3.75% upper bound, reflecting the market's strong expectations of a rate hike.
On Wednesday, the Fed will announce its policy decision for this meeting. According to the CME FedWatch Tool, as of last Friday, the market expected a 62% probability of the meeting maintaining the interest rate, but the probability of a rate hike has surged from about 13% a week ago to around 38%.
"This shows how concerned the market is about inflation and how worried the market is about whether the Fed can act consistently," said Gennadiy Goldberg, head of US rate strategy at TD Securities, referring to Powell's series of public statements about pushing inflation back to the 2% target.
Oil Price Shock Adds to Bond Market Pressure, US Treasury Yields Approach Decade High
The US-Iran conflict was the direct catalyst for this round of US Treasury yield increases. The surge in oil prices intensified market concerns about a resurgence of inflation, prompting traders to sell US Treasuries in droves. According to GasBuddy data, the average retail prices of gasoline and diesel in the US have recently returned to over $4 per gallon and $5.20 per gallon, respectively.
After Powell's first press conference as Fed Chair in June, the US Treasury market briefly rebounded, but this upward trend quickly dissipated. The yield on the 30-year Treasury bond stubbornly remained above 5%, causing heavy losses for investors who had bet on long-term bonds.
David Rosenberg, founder and president of Rosenberg Research & Associates, wrote in a report last Friday: "We did not anticipate this latest chapter of the US-Iran conflict, which is a complex factor for any duration asset at present." He also pointed out that the issuance of tech-related corporate bonds continues to expand, putting pressure on the US Treasury market. Rosenberg stated that he has adjusted his portfolio, shifting his previously underperforming long positions in 30-year US Treasuries to short-duration US Treasuries.
Paul Christopher, Global Investment Strategist at Wells Fargo Investment Institute, stated, "The Fed needs to heed this signal. Uncertainty is compounding, and bond market investors are demanding appropriate compensation."
Rate Hike Window Debate: The Dilemma of Policy Action Cost and Timing
The Federal Reserve is not in full agreement internally. It is reported that some members of the rate-setting committee are inclined to raise rates to curb inflation. However, the issue lies in the fact that the timing of any rate hike action is extremely delicate.
Inflation itself erodes the real value of fixed-income assets, and a rate hike would further depress bond prices, weighing on other financial assets such as stocks. Meanwhile, Barclays analysts project that the U.S. fiscal deficit in 2026 will be around $2 trillion, and the continued massive issuance of U.S. Treasuries will be a key way to fill the gap, indicating that near-term bond market supply pressure is unlikely to ease.
Furthermore, the tech industry's large-scale debt issuance is also amplifying bond market pressure. Large tech companies, represented by "mega-cap cloud computing companies," are issuing corporate bonds at a feverish pace to support the construction of AI infrastructure, driving up the overall market's borrowing cost. Moody's Investors Service estimated in a report last Wednesday that capital expenditures for these mega-cap cloud computing companies in 2027 will approach $1 trillion, soaring further from nearly $800 billion this year, and warned that "rising capital spending, increasing leverage, and off-balance-sheet commitments" will pose a threat to the credit quality of this group.
Stock Market Hit by Another Heavy Blow, Tech Stocks Lead Decline
The shadow of higher rate expectations also hangs over the stock market. Last week, semiconductor stocks led the decline, with the Philadelphia Semiconductor Index falling over 4% in a single week. The Dow Jones Industrial Average fell 0.4% for the week, the S&P 500 Index declined 0.6%, and the Nasdaq Composite Index plummeted by as much as 2.1%. The Nasdaq Index has now retraced 7.8% from its record high set in early June.
Higher interest rate levels often suppress corporate and consumer spending, thereby dragging down economic growth and eroding corporate profit expectations. Wells Fargo's Christopher suggested that investors may consider waiting for the end of this round of tech stock rotation, at which point "a better entry point may emerge," and noted that "holding a certain amount of cash on hand may not be a bad idea."
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