Global bond markets suffered a significant sell-off, with the UK becoming a "hard-hit area." The market is betting that the central bank will prioritize tackling inflation.

As the conflict in the Middle East continues to escalate and drive up energy prices, the global bond market has experienced heavy selling. Investors are betting that interest rates will remain high for a longer period of time, and there is even a possibility of further tightening, reflecting concerns in the market about the impact of inflation rapidly heating up. Since the outbreak of the Iran war three weeks ago, there has been a significant reversal in market expectations. It was previously widely believed that major central banks would cut interest rates within the year to support economic growth. However, with oil and natural gas prices continuing to soar, this expectation was quickly shattered. Investors have begun to re-evaluate the path of interest rates, betting instead that central banks will prioritize addressing inflation risks. The UK bond market has been hit hard by the current round of selling. The yield on UK 2-year government bonds surged by 40 basis points to 4.49% at one point, showing a trend that was reminiscent of the intense volatility seen in the market when former Prime Minister Thatcher's fiscal policies in 2022 caused turmoil. The Bank of England stated on Thursday that it is "prepared" to take action to prevent inflation from accelerating further, strengthening market expectations of possible policy tightening. European markets are also under pressure. The yield on short-term German government bonds rose by 8 basis points, and traders are still sticking to their bets that the European Central Bank will raise interest rates at least twice this year. Despite the European Central Bank maintaining interest rates for the sixth consecutive time, President Lagarde warned of downside risks to economic growth from the war, highlighting the policy dilemma faced. The US bond market has also seen adjustments. The yield on 2-year US Treasury bonds rose to 3.82%, following remarks made by Federal Reserve Chairman Powell that were interpreted by the market as a signal that interest rates may remain unchanged this year. Compared to three weeks ago, when the market was still expecting the Fed to cut interest rates twice this year, the probability of rate cuts by the end of the year has significantly decreased. Market participants point out that the bond market sell-off is mainly focused on the most policy-sensitive short-term instruments, reflecting a rapid shift in expectations for monetary policy. Brij Khurana, portfolio manager at Wellington Management, said that the market had previously believed the conflict would end quickly, but now "concerns about the war potentially lasting longer are finally starting to be priced in." The continuous rise in energy prices has become the core factor driving this change. As conflicts escalate in the Persian Gulf region, key energy infrastructure faces threats, leading to further increases in oil and gas prices and exacerbating upward inflation pressure. Recent statements from central banks around the world also indicate that their policy focus is shifting from supporting growth to preventing inflation. Bank of England Governor Bailey stated that policies must address the risk of inflation potentially lasting longer. Thierry Wizman, strategist at Macquarie Group, pointed out that central banks are adjusting policy guidance from a previous bias towards rate cuts to a greater focus on raising rates or maintaining high rates to address inflationary pressures from energy shocks. This trend is also evident in Japan. Bank of Japan Governor Kuroda stated that there is no exclusion of a rate hike possibility in April, leading to a slight increase in Japanese government bond yields. However, in the United States, as the Federal Reserve has a dual mandate of employment and inflation, its policy path remains somewhat flexible. Powell emphasized that before considering rate cuts again, further easing in inflation must be observed, but if economic growth significantly slows down, the Fed may still turn towards accommodation. Gargi Chaudhuri, strategist at BlackRock, stated that compared to other central banks, the Fed is more likely to prioritize rate cuts in the face of growth shocks.