Bonds vs. Equities

MACRO FRAME

Global bond yields remain elevated as markets eye the await the outcome of President Trump’s “pause” on attacks. While tech/AI leadership may continue to provide a floor, the combination of firmer energy-driven inflation, heightened Fed tightening expectations, and rising geopolitical risk leaves risk sentiment vulnerable heading into retail earnings reports this week.

STOCK INDEX FUTURES

Equity index futures moved higher overnight as markets look to break their three-day slump. The Iran situation has entered a drawn-out holding pattern leaving markets with little direction outside of earnings season. While the recent bond sell-off has underscored bearish sentiment across markets, mainly related to the geopolitical situation, equity markets have shown little sensitivity to higher yields, indicating that a meaningful rotation into bonds has yet to take place amid higher rates. The S&P has largely shrugged off the bond selloff, with minimal drawdown and a continuation of its upward trend following the initial geopolitical shock. Strong earnings revisions, supported in part by ongoing AI-related capital expenditures, have helped offset macro headwinds. However, valuation signals are becoming more stretched: the 10-year Treasury yield now exceeds the S&P 500 earnings yield by the widest margin since the early 2000s, historically a cautionary signal for equities. For now, equities continue to outperform bonds, but the growing disconnect between rates and risk assets warrants closer attention. Elsewhere, Nvidia’s quarterly results after the bell will be under the microscope and is likely to be a catalyst for market direction and tech-enthusiasm.

US attacks against Iran originally scheduled for Tuesday were delayed due to “substantial negotiations,” although President Trump explicitly stated the US can hold off only “another day or two”. US strike would spark further oil price gains, extend the inflation shock, and trigger a broad risk-off selloff as markets fear an Iranian counterattack; on the other hand, a deal would instantly reverse recent trends across equities, treasuries, metals, and currencies with significant relief rallies.

Watch point: While the bond sell-off has yet to meaningfully impact equities, higher yields could temp a rotation away from risk assets and into rates as markets await the outcome of President Trump’s pause on strikes.

CURRENCY FUTURES

US DOLLAR: The USD index is little changed at 99.35, ahead of today’s FOMC minutes; a hawkish tone from today’s minutes would reinforce dollar strength. Overall, the bias for the dollar remains higher given current conditions, though a peace deal or framework as an outcome of President Trump’s announcement of a ceasefire extension could unwind flight-to-quality longs and see the dollar drop substantially. Still, underlying fundamentals remain solidly bullish for the dollar: the US interest rate differential continues to expand as a Fed rate hike becomes increasingly expected by markets in later months. Odds of a December rate hike are nearly 50%. While recent labor data did reveal some notable spots of weakness, the overall market narrative is that the Fed will keep a hold on rates while a growing chorus of participants are beginning to expected a move upwards.

Watch point: Stalled optimism around a US–Iran resolution will continue to offer safe-haven support for the dollar. Fed policy expectations are likely to reinforce near-term dollar strength, though a peace deal could unwind recent strength.

EURO: The euro remained range-bound overnight, holding at $1.1601, while final harmonized CPI data for the eurozone for April confirmed inflation at 3.0% – up from 2.6% in March, while core held steady at 2.2%.

Dollar strength remains the prevailing theme in currency markets with oil prices higher and jitters over geopolitics. For the euro, the prospect of slower economic growth and higher interest rates as a result of the US-Iran conflict reinforce downward pressure on the currency as the eurozone remains particularly vulnerable to the energy crisis. Eurozone growth slowed to 0.1% in Q1 2026, while inflation rose to 3% in April, the highest since September 2023. S&P Global PMI survey out tomorrow will give investors another chance to reassess further monetary policy expectations. Markets are currently pricing a 85% chance of a hike at the June meeting and are nearly priced for two additional rate hikes by year-end.

BRITISH POUND: Sterling is little changed at $1.3402, following choppy overnight trading after UK inflation came in below consensus in April. Headline CPI came in softer than expected (2.8% vs. 3.0% consensus), driven by the energy price cap reset, a one-time government policy effect that will base-effect out in coming months. Meanwhile, Input PPI at +7.7% YoY and the Import Price Index at +8.0% YoY signal that the upstream cost pressures from the Iran conflict and energy markets are still intensifying. The Bank of England’s April letter to the Chancellor had flagged that services inflation was expected to fall from 4.5% to around 3.8% by September; the April print of 3.2% came in well ahead of that trajectory, which might give the BoE more room to maneuver on rate cuts. However, the crude oil input cost surge (+75.4% YoY) is a significant concern for pass-through back into CPI over the next 2–3 quarters. The inflation figures follow data from Tuesday that showed businesses in the UK slowed hiring and posted fewer job vacancies, while the unemployment rate ticked up to 5% for the first quarter, from 4.9% in Q1.

JAPANESE YEN: The yen held steady at 159.01 yen per dollar. Treasury Secretary Scott Bessent told Reuters on Tuesday that he was confident Bank of Japan Governor Kazuo Ueda would hike rates in the near future, though his comments had little effect on the currency. Apart from dollar strength and the geopolitical premium, anticipation of details surrounding the government’s additional budget plan, which markets fear will strain public borrowing, is keeping the yen on the backfoot. Meanwhile, the yen has fallen closer to the 160 level, which is a notable pain point for the government and has triggered intervention in recent weeks.

Markets are pricing a 74% chance of a hike from the Bank of Japan come June. Recent wholesale inflation data has bolstered the case for the BoJ to tighten policy. For the yen, intervention alone is likely not going to be sufficient enough to strengthen the currency given Japan’s vulnerabilities to higher energy prices. Further expectations/confirmation of a June rate hike will offer the yen support, though without firm policy support from the BoJ the yen is likely to consolidate in the 157-159 range.

AUSTRALIAN DOLLAR: The Aussie rose 0.27% to $0.7128 alongside gains in the equities. The Aussie has been subject to rapid changes in sentiment in recent trading sessions, often trading the mood regarding developments out of the gulf. Interest rate differential support for the Aussie is also waning a the spread between Australian 10-year and US 10-year has fallen to its weakest level this year around 45 basis points, down from 75 basis points a month ago. The Reserve Bank of Australia is still expected to raise rates one more time this year, though against the backdrop of a hike in Fed policy, interest rate differential support is not as strong as a factor. Markets imply around a 18% chance of a June hike to the 4.35% cash rate, while the probability of an August hike to 4.60% slipped to 60%.

Watch point: While a durable end to the war would alleviate downside risks to growth and moderate inflation pressures, ongoing pass-through into broader prices is likely to keep the RBA on a tightening path.

TREASURY FUTURES

Yields moved lower across the curve, though bond markets hit another low overnight before rebounding. Technically, bonds are in oversold conditions, with the 9-day RSI on notes below 30 and bond RSI approaching 30. Over the past week, long-end yields moved higher across multiple developed markets simultaneously, cutting across differing political systems and central banks, pointing to a broader, structural repricing rather than country-specific dynamics. While idiosyncratic fiscal concerns persist, the common thread is increasingly clear: elevated debt levels, limited fiscal discipline, and little political willingness to address either are beginning to weigh on duration globally. The recent escalation in the Iran conflict, particularly disruptions tied to the Strait of Hormuz, has added an inflationary impulse that may have acted as a catalyst for this move.

While a rotation away from equities and into bonds amid higher rates could trigger a relief rally, underlying inflation fundamentals are structurally bearish for bonds, especially as expectations of a hike in policy from the Fed grow, absent any developments in the Gulf. The two-year yield rests well above the upper-bound of the Fed Funds rate, alongside surging inflation for both consumers and producers, reinforcing the narrative that rates will remain higher for longer. In macro context, the median and trimmed mean inflation components have ticked above 3%, while the Fed’s supercore (services inflation minus shelter) also rose above 3% indicating there is more to inflation than the first-order effects from the oil shock. Bond yields have risen in such a way that suggests the Fed is behind the inflation curve, presenting Warsh with a potential bond market revolt if he presses for lower rates.

Watch point: The path to loosening has faded materially as inflation has evidently become more broad based.

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