Geopolitics Fuel Inflation Fears (13 – 17 July)

Global markets remained driven by geopolitical developments this week as renewed US-Iran strikes and uncertainty surrounding the ceasefire kept investors focused on inflation risks and the outlook for monetary policy. Although oil prices eased toward the end of the week as diplomatic talks continued, supply disruptions in the Strait of Hormuz continued to support energy markets. Investors also assessed the latest Federal Reserve commentary and June FOMC minutes, which highlighted persistent concerns over inflation despite keeping interest rates unchanged.

The macro backdrop continues to be shaped by the balance between geopolitical uncertainty and central bank policy. While lower oil prices helped ease inflation fears late in the week, markets still expect at least one Federal Reserve rate hike this year. September rate hike expectations stand around 62%, up from 58% last week but below the 70% reached earlier. The European Central Bank is also expected to continue tightening policy, while the Bank of England remains on track for at least one rate hike as inflation pressures persist.

Market Drivers & Catalysts

• US-Iran Conflict: Renewed military strikes and uncertainty surrounding the ceasefire kept markets volatile, while ongoing negotiations prevented a sharper escalation.
• Strait of Hormuz Disruptions: Shipping through the Strait of Hormuz, which handles around 20% of global oil trade, remained disrupted, maintaining a risk premium in energy markets.
• Fed Rate Expectations: Markets continue to expect at least one Federal Reserve rate hike this year, with the odds of a September hike rising to 62% from 58% last week.
• Inflation Concerns: June FOMC minutes showed officials remain concerned that AI-driven demand, Middle East tensions, and tariffs could keep inflation above target.
• Oil Price Volatility: Brent crude finished the week around 5% higher despite pulling back on Friday as markets weighed renewed conflict against continued diplomatic efforts.

Fixed Income

• US 10-Year Treasury Note Yield: Eased to around 4.54%, falling for a second consecutive session as lower oil prices reduced immediate inflation concerns. Investors continue to expect at least one Fed rate hike this year, while John Williams highlighted AI-driven demand as an emerging inflation risk.
• UK 10-Year Bond Yield: Declined to 4.89% after reaching one-month highs as falling oil prices supported bond markets. Despite the pullback, gilt yields still rose 10 basis points over the week as markets continue to price one Bank of England rate hike this year and a 25% probability of a second.
• Japan 10-Year Government Bond Yield: Fell around 10 basis points to 2.77%, retreating from nearly 30-year highs. The decline followed lower oil prices and Finance Minister Satsuki Katayama’s proposal for pension funds to increase allocations to Japanese assets. Investors also continued to assess Japan’s ¥370 trillion investment roadmap through fiscal 2040.
• Germany 10-Year Bund Yield: Declined to 3.03% after approaching a two-month high. Despite lower oil prices, Bund yields still gained around 10 basis points over the week, their largest weekly increase in five weeks, as markets continue to price two additional ECB rate hikes. Germany also approved its €555.4 billion budget for 2027.

Commodities

Gold fell to around $4,100 per ounce, losing 1.5% over the week as higher oil prices and renewed US-Iran tensions reinforced expectations that the Federal Reserve will keep policy restrictive. Central banks continued buying gold, with China’s central bank recording its largest monthly reserve increase in two and a half years, while Indian demand weakened.

Silver dropped below $60 per ounce, ending the week down around 4%. Rising oil prices and renewed geopolitical tensions increased expectations that the Federal Reserve will maintain restrictive monetary policy. Investors also looked ahead to next week’s US inflation report and testimony from Fed Chair Kevin Warsh.

Currencies

• U.S. Dollar Index (DXY): Held near 100.9, finishing the week little changed as investors balanced geopolitical developments against changing expectations for Federal Reserve policy. September rate hike odds increased to 62%, while John Williams warned that AI-driven demand could become an additional source of inflation.
• Euro: Remained close to 1.1400 against the dollar as safe-haven demand supported the U.S. Dollar. A hawkish Federal Reserve and a more cautious ECB continued to weigh on the single currency. Technically, resistance stands between 1.1430 and 1.1450, while support is located between 1.1355 and 1.1400.
• British Pound: Rose to around $1.343, its highest level since mid-June, extending gains for a second consecutive week. Sterling has recovered more than 2% since June’s seven-month low as markets continue to expect a Bank of England rate hike later this year. Andy Burnham is scheduled to become UK Prime Minister on July 20.
• Japanese Yen: Strengthened toward 161 per dollar, recovering earlier weekly losses after Finance Minister Satsuki Katayama encouraged pension funds to increase holdings of domestic assets. Producer prices increased 7.1% in June, the fastest pace since March 2023, reinforcing expectations for further Bank of Japan tightening.

Economic Data Highlights

• US Existing Home Sales (June): Fell 2.4% to an annualized 4.09 million units, below expectations of 4.20 million. Housing inventory declined 0.6% to 1.56 million units, representing 4.6 months of supply, while the average home price increased 1.8% year-on-year to $440,600.
• US ISM Services PMI (June): Slipped to 54.0 from 54.5, matching expectations. Business activity and new orders moderated, while the employment component rose to 51.2 from 47.9, its first expansion since February. The prices index eased to 67.7, its lowest level in four months.
• FOMC Minutes (June): Policymakers remained divided over future interest rate moves. Most officials cited elevated inflation risks linked to AI investment, Middle East tensions, and tariffs, while the Fed left rates unchanged at 3.50%–3.75%.
• China Inflation (June): Annual inflation slowed to 1.0% from 1.2%, below the 1.1% forecast and marking the weakest pace in three months. Monthly CPI fell 0.3%, while core inflation remained near 1.0%.

Macro Calendar Highlights

• US Consumer Price Index (CPI)
• UK Consumer Price Index (CPI)
• US Producer Price Index (PPI)
• US Industrial Production
• US Retail Sales
• Initial Jobless Claims
• Philadelphia Fed Manufacturing Index
• University of Michigan Consumer Sentiment
• US Housing Starts