Iran Situation Roils Global Markets: US Stocks ‘Rally,’ Treasuries ‘Cool,’ Does Stock-Bond Divergence Hide Big Risks?

TradingKey - Against the backdrop of the Iranian situation driving up oil prices and magnifying economic uncertainty, U.S. stocks have shown strength, appearing largely unaffected by oil price volatility, while the U.S. Treasury market has fallen into turmoil, reflecting a clear divergence between stocks and bonds.

Following brief volatility in March, U.S. equities demonstrated exceptional resilience, not only recovering all losses since the U.S.-Iran tensions but also repeatedly hitting record highs, as investors generally believe that the earnings of U.S. listed companies will remain insulated from the conflict.

Propelled by the dual forces of the AI industry boom and marginal improvements in the macroeconomic environment, U.S. stocks are undergoing a major rally, with the gains of leading tech stocks even surpassing their peaks seen before the burst of the 1999 internet bubble.

In contrast, the situation in the bond market is more delicate, with U.S. Treasury yields recently reclaiming the 5% threshold as traders waver between the impulse to buy the dip and concerns over risk.

As bond market volatility continues to amplify and key interest rate levels are breached one after another, this divergence between stock prices and interest rate trends has historically been difficult to sustain for long.

The core contradiction at present is that the interest rate market is pricing in the shock of rising oil prices and subsequent inflationary impacts, while the stock market chooses to ignore them as short-term disturbances; these two assessments clearly cannot coexist.

US Equities Demonstrate Resilience

Despite intermittent tensions in the Strait of Hormuz, U.S. equity markets have consistently maintained upward resilience, with Wall Street continuously raising earnings expectations for S&P 500 components.

In his latest report, Keith Lerner, Chief Investment Officer at Truist Advisory, used the term "Teflon market" to describe current U.S. equities—noting that like a non-stick coating, various negative news items seem unable to leave a mark on the market's surface, while robust corporate earnings have become the firmest support.

The rally in the semiconductor sector has been particularly striking, even surpassing the intensity of the dot-com bubble era. BTIG data shows that over the past year, the 10 best-performing stocks in the Nasdaq 100 index rose by an average of 784%, compared to 622% in the year preceding the 2000 bubble peak and 559% in 1999. Individually, SanDisk surged 3,960% over the past year, far exceeding the 2,600% record set by Qualcomm in 1999.

Even as geopolitical risks such as the U.S.-Iran conflict and the Russia-Ukraine war continue to cause disturbances, the market has consistently demonstrated rapid recovery. For instance, the S&P 500 fell 9.1% in late March due to the situation in the Middle East but returned to record highs in just 16 days—a rebound speed far exceeding historical averages. Vanguard data shows that since 1950, the median recovery for U.S. stocks after a similar decline has taken 107 days, with the average duration reaching 309 days.

Independent strategist Edward Yardeni believes that global stock markets are in a bull cycle, driven primarily by strong corporate earnings—particularly from U.S. tech companies—and that the late March low is likely the market bottom for the year. However, he also cautioned that with the situation in the Middle East not yet fully clear, the market's upward path will not be without its share of volatility.

Bond Market Cools

Compared with the red-hot equity market, the atmosphere in the bond market is much more subdued. The Bloomberg US Aggregate Index is the most closely watched benchmark in the investment-grade bond space; in the first two months of this year, investors in funds tracking the index saw returns of nearly 2%.

The 30-year U.S. Treasury yield, which breached the 5% mark last July, recently climbed back above this key level, reflecting renewed market anxiety over U.S. debt pressures.

Oil prices surged following the escalation of the conflict, pushing bond yields higher and consequently driving bond prices lower. Although relevant indices have rebounded recently, year-to-date gains have been nearly wiped out, returning to levels near zero.

More alarming is that this geopolitical conflict is quietly undermining the central role of U.S. Treasuries in the global financial system. In a report released late last month, Fitch Ratings noted that the current U.S. debt burden is significantly higher than that of other AA-rated peers.

Fitch also mentioned that governance controversies during the Trump administration, ongoing conflict in the Middle East, and expanding budget deficits are all gradually eroding the foundation of U.S. credit.

This predicament continues; despite Kevin Warsh, Trump's nominee for Fed Chair, repeatedly signaling potential rate cuts, the market has not responded positively. According to CME FedWatch futures data, the market generally expects the Fed to maintain current rates through December 2027, and the probability of a rate hike now exceeds that of a cut.

The current divergence between the stock and bond markets may still be within manageable limits, but vigilance is required if this decoupling persists over the long term. Should interest rates continue to rise while signs of economic recession emerge, the optimism in the U.S. equity market will eventually face a severe challenge.