Bond markets: Escalation in the Middle East turns sentiment negative

Bond Market Movers – Review and Outlook

What drove the bond markets last week?

• Following the latest round of tit-for-tat military strikes between the U.S. and Iran in the Middle East, Donald Trump has had enough. He declares the ceasefire over. Negotiations on a permanent peace agreement are set to continue. Yet, Trump sees no prospect of success.
• U.S. President Trump also caused a stir at the NATO summit by threatening to halt bilateral trade with Spain.
• In light of the recent turmoil in the Middle East, Bundesbank President Nagel reiterated that another ECB rate hike might be necessary.
• According to the minutes of the most recent Fed meeting, a few central bankers already believed the conditions for tightening monetary policy were in place.
• The ISM index for the U.S. services sector edged down slightly in June, and price expectations also weakened.
• The issuance of the new 10-year Bund faced historically weak demand. The nominal bid-to-cover ratio was at its lowest level since the fall of 2021.

What could drive the market next week?

• The peace process in the Middle East is facing its toughest test since the U.S.-Iran agreement was signed about a month ago. Will the recent wave of military violence bring the negotiations permanently off track?
• Fed Chairman Warsh is set to deliver his first semiannual monetary policy testimony to the U.S. Congress.
• The macroeconomic highlight of the week will be the U.S. consumer price data for June. Headline inflation is very likely to fall for the first time since the outbreak of the Iran War, dropping back below 4%. According to our forecast, the core rate is set to stagnate at 2.9%. Moreover, U.S. retail sales figures for June will be in the spotlight.
• China is the first of the major economies to release its second-quarter GDP data.
• The primary market for U.S. Treasury bonds will be in the doldrums next week. Meanwhile, activity in the primary market for euro-denominated government bonds is set to pick up compared with last week. We expect gross supply to total just over EUR 30bn, following approximately EUR 20bn the previous week. Given quite high reflows from maturing bonds, net cash flows are nevertheless about to turn positive.

Elmar Völker, Senior Fixed Income Analyst