Global Bond Yields Surge Sharply, Three-Week War Completely Upends Central Bank Policy Expectations

Global bond markets are experiencing intense re-pricing driven by energy price shocks. As the Middle East conflict continues to escalate and oil prices remain high, concerns over persistent inflation are spreading rapidly. Expectations for rate cuts by major central banks have completely reversed, now betting on rate hikes.

The UK 10-year government bond yield rose to 4.94% intraday on Friday, the highest level since the 2008 global financial crisis. Bank of England Governor Andrew Bailey warned that monetary policy must “address the risks of more persistent inflation,” and the nine-member Monetary Policy Committee unanimously voted to keep rates at 3.75%, but with a notably hawkish tone.

Meanwhile, European Central Bank Governing Council member Joachim Nagel stated that if price pressures further intensify, the ECB could consider rate hikes as soon as next month. In the US, traders have completely reversed their bets on Fed rate cuts this year.

The shift in market sentiment reflects deep investor concerns about the prolonged nature of the conflict. Goldman Sachs trading desks report that clients who previously expected a quick resolution to the Iran conflict are now wavering, with some anticipating a market correction or a repeat of the sustained decline seen in 2022. Brij Khurana of Wellington Management said, “The market previously believed the situation would resolve relatively quickly, but now fears of a prolonged conflict are finally spreading.”

UK Becomes Epicenter of Bond Market Turmoil

The UK bond market has borne the brunt of the recent sell-off. The 10-year yield surged by as much as 10 basis points to 4.94% in a single day, with short-term yields rising even more—2-year yields increased by 13 basis points to 4.53% on Friday, up 100 basis points since the outbreak of war in late February.

Trader expectations for the Bank of England’s rate hikes this year continue to rise. The market is now pricing in a total of 87 basis points of hikes for the year, equivalent to three 25-basis-point increases, with about a 50% chance of a fourth hike. This is a stark contrast to three weeks ago, when markets widely expected the BOE to cut rates this week due to weakening labor market conditions.

James Athey, fund manager at Marlborough Investment Management, noted that with rising inflation expectations and a hawkish stance from the BOE, any tightening of fiscal space would further hurt UK bond investors. He added, “Markets are struggling to find direction amid extreme volatility and correlation breakdowns, which is expected in an environment of shocks and high uncertainty.”

Eurozone Rate Hike Expectations Surge

Eurozone bond markets are also under pressure, with German 10-year yields reaching their highest since 2011.

Interest rate swap contracts linked to ECB policy meetings show that markets have fully priced in three 25-basis-point hikes this year, with a total of 79 basis points expected for the year, up from 70 basis points on Thursday. Traders now see a 75% probability that the ECB will start its first rate hike as soon as next month.

Energy prices are the main driver behind these changing expectations, with Brent crude oil briefly surpassing $110 per barrel. Nagel’s comments have provided policy-level backing for rate hike bets, further reinforcing expectations of a shift in monetary policy in the euro area.

Gold Faces Heavy Losses, Popular Trades Collapse

Amid the bond market turbulence, gold has also suffered significant declines. Spot gold prices fell about 7% this week, with a total decline of over 11% since March, currently around $4,699 per ounce. If the monthly decline persists, it will mark the largest monthly drop since 2008.

Analysts attribute this decline to both technical and fundamental factors. Spot gold broke below its 50-day moving average this week and briefly touched the 100-day moving average—an important support level since 2023. The primary driver is the widespread upward revision of interest rate expectations, which diminishes gold’s appeal as it does not generate interest income and becomes less attractive in a high-rate environment.

Gold mining stocks also fell sharply, and physical gold ETFs have continued to see outflows. According to Bloomberg data, related funds have experienced net outflows for three consecutive weeks, with holdings decreasing by over 60 tons. Former JPMorgan precious metals trader Robert Gottlieb warned, “Don’t buy the dip—volatility is too high right now.”

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