Treasuries Extend Slump as Fed Rate Cut Expectations Vanish Amid US-Iran Conflict

This analysis is based on the Barron’s article [1] published on March 20, 2026, reporting on the dramatic shift in Treasury market sentiment as the likelihood of Federal Reserve rate cuts has virtually disappeared.

The US-Iran conflict, which began when the US attacked Iran on February 28, 2026, has triggered a significant disruption in global energy markets [1][2]. Iran subsequently blocked the Strait of Hormuz—the critical chokepoint for approximately 20 million barrels of oil per day—creating what the International Energy Agency has termed the largest supply disruption in global oil market history [1]. This geopolitical crisis has fundamentally altered the interest rate outlook for the Federal Reserve, forcing rate traders to abandon expectations for rate cuts and instead price in the probability of rate increases.

The bond market is now experiencing what analysts describe as “bear-steepening,” where long-term yields are rising faster than short-term yields—a technical dynamic that is typically bearish for risk assets [3]. The 2-year Treasury yield approaching 3.9% represents a significant technical milestone, trading above the Fed funds rate target—a signal not witnessed since before the 2008 financial crisis [3]. This inversion suggests markets are pricing in a sustained period of higher rates, potentially extending several years into the future.

The Federal Reserve now faces a challenging stagflationary dilemma: accommodating inflation pressures from energy price shocks or tightening monetary policy into an economy already showing signs of slowing [1][4]. With Brent crude oil trading above $110 per barrel—up from approximately $70 pre-war—the risk of core PCE inflation re-accelerating has become a primary concern for policymakers.

The complete reversal of Fed rate cut expectations in less than a month represents one of the most dramatic policy pivots in recent market history. Just weeks ago, rate traders were pricing in two rate cuts for 2026; now, the probability of any rate cut has fallen to zero while the probability of a rate hike by October has risen to 50% [1][2].

The geopolitical dimension adds substantial uncertainty to the outlook. The US has deployed additional warships and Marines to the Middle East region [1], and Iran has extended its attacks to Qatar’s Ras Laffan facility, which handles approximately 20% of the world’s LNG supply [1]. This escalation suggests the energy supply disruption may persist longer than initially anticipated, maintaining upward pressure on both oil prices and Treasury yields.

From a technical perspective, the movement in the 2-year yield breaking above the Fed funds target represents a critical inflection point [3]. Historical precedent suggests such technical signals can precede significant market dislocations, though the current environment is complicated by the unique geopolitical circumstances driving yields higher.

• The analysis reveals several risk factors that warrant attention. Sustained oil prices above $100 per barrel could force core PCE inflation to re-accelerate, potentially requiring more aggressive Fed tightening than currently priced [1].
• Credit spreads may widen as corporate borrowing costs rise with Treasury yields, potentially triggering stress in leveraged sectors [1].
• Emerging markets with dollar pegs face increasing pressure as US yields rise globally.
• The “demand destruction” concern is rising as oil prices climb to levels that historically suppress consumption [1][4].

• Energy sector equities (oil and gas producers) may benefit from the elevated commodity price environment.
• TIPS (Treasury Inflation-Protected Securities) and commodity-focused allocations may offer protection against inflationary pressures.
• Floating-rate instruments (bank loans, floating-rate notes) may benefit from the rising rate environment.

The Treasury market slump reflects fundamental shifts in monetary policy expectations driven by geopolitical conflict:

The Strait of Hormuz remains largely shut, with approximately 20 million barrels per day of oil supply backed up [1]. The next critical data points will be the CPI report (March 28) and PCE report (April 10), which will provide updated inflation readings that the Fed will consider in its upcoming policy communications.