U.S. Treasury yields edged higher Monday after U.S. and Israeli strikes on Iran over the weekend escalated tensions in the Middle East, complicating the traditional safe-haven calculus for bond investors.

At 6:03 a.m. ET, the benchmark 10-year Treasury yield rose 1 basis point to 3.972%, while the 30-year bond added nearly 1 basis point to 4.639%. The 2-year Treasury note climbed more sharply, up more than 3 basis points to 3.412%. One basis point equals 0.01 percentage point, and yields move inversely to prices.

The modest increase in yields indicates a market balancing two opposing forces. On one side is geopolitical risk, which typically drives investors into Treasuries, pushing prices up and yields lower. On the other is the prospect of higher oil prices and renewed inflation pressure, which can push yields higher by eroding real returns and reshaping expectations for Federal Reserve policy.

U.S. and Israeli strikes killed Iran’s Supreme Leader, Ayatollah Ali Khamenei, and more than 200 people in Iran, according to state media. Iran retaliated with attacks on U.S. bases in the Middle East, killing three American service members and seriously wounding five others. President Donald Trump told CNBC’s Joe Kernen that U.S. military operations are “ahead of schedule” and warned the conflict could last up to four weeks, with further American casualties expected.

Yield curve dynamics and policy expectations

The sharper rise in the 2-year yield — the maturity most sensitive to monetary policy — suggests traders are reassessing the near-term path of interest rates. If oil prices surge and remain elevated, headline inflation could reaccelerate, complicating the Federal Reserve’s policy outlook.

Higher energy costs feed quickly into transportation and production expenses and can lift consumer price indices, particularly if shipping insurance premiums and freight rates rise. In such a scenario, policymakers may be forced to delay rate cuts or signal a more cautious easing trajectory.

The 10-year and 30-year yields, which incorporate longer-term growth and inflation expectations as well as term premiums, rose only modestly. That pattern points to a market not yet pricing in a severe or prolonged supply shock. If investors were anticipating a sustained conflict with structural energy disruption, long-end yields could move more decisively.

Another factor is the U.S. fiscal backdrop. Potential supplemental defense spending or emergency appropriations linked to Middle East operations could widen the federal deficit, increasing Treasury issuance. Greater supply can exert upward pressure on yields, particularly at longer maturities, if demand does not keep pace.

Analysis: Oil, inflation expectations, and global spillovers

Energy markets are central to the bond outlook. The Gulf region plays a pivotal role in global crude exports. Any disruption to production, refining, or maritime transit could amplify price volatility. Even in the absence of physical supply damage, risk premiums embedded in crude futures can raise inflation expectations.

Breakeven inflation rates — derived from Treasury Inflation-Protected Securities — will be closely monitored for signs that investors expect higher consumer prices over the medium term. A sustained rise in breakevens would indicate growing concern that energy shocks are seeping into core inflation.

At the same time, geopolitical crises can dampen growth through reduced trade, weaker business confidence, and tighter financial conditions. If the conflict drags on and weighs on global activity, recession risks could resurface, potentially reasserting downward pressure on longer-dated yields.

This tension between inflation risk and growth risk often produces choppier bond trading and curve volatility. A steepening yield curve could signal inflation anxiety, while a flattening curve might point to recession fears dominating.

Data calendar adds to volatility risk

Investors are also preparing for a consequential week of economic data. February’s jobs report, January retail sales, and February unemployment figures are due Friday, offering insight into labor market resilience and consumer strength. Earlier in the week, the ISM manufacturing report and ADP employment data will provide additional signals on economic momentum.

Stronger-than-expected data could reinforce upward pressure on short-term yields if markets conclude that the Fed has less room to ease. Conversely, softer readings could revive demand for longer-duration bonds, particularly if geopolitical uncertainty intensifies.

Currently, Treasury markets appear to be in a wait-and-see mode. The incremental rise in yields suggests investors are not yet rushing aggressively into safe-haven assets, nor are they fully pricing a sustained inflation shock. The next decisive move will likely lie on the trajectory of oil prices, the duration of military operations, and incoming economic data.

In effect, the bond market is serving as a barometer of whether the current escalation remains a contained geopolitical event or evolves into a broader macroeconomic shock with lasting implications for inflation, growth, and U.S. fiscal policy.

Manufacturing activity across the euro area showed one of the strongest expansions in years in February, pointing to a tentative recovery in industrial demand and output.

However, the surge in energy prices and renewed geopolitical risk following military strikes on Iran threaten to sap momentum and complicate the broader economic picture.

According to the latest HCOB Eurozone Manufacturing Purchasing Managers’ Index compiled by S&P Global, the headline manufacturing PMI climbed to 50.8 in February from 49.5 in January, marking the best performance since June 2020 and the first reading above the 50 expansion threshold since August. A reading above 50.0 signals growth, a meaningful shift after months of stagnation and contraction.

The improvement was driven by the strongest rise in new orders since April 2022, suggesting that both domestic and some external demand conditions are stabilizing. Factory output expanded for the 11th time in 12 months and hit a six-month high. Germany—the bloc’s industrial engine—returned to growth after years of subdued activity, while Italy, the Netherlands, Ireland, and Greece also showed solid expansion. France posted modest growth, and export orders, though still weak, contracted at the slowest rate in months.

However, the rebound comes with pronounced cost pressures. Input costs rose at the fastest rate in more than three years, with firms citing sharply higher energy prices among the main drivers. Manufacturers responded by raising selling prices at the fastest rate since March 2023, underscoring how cost inflation is squeezing margins even as production increases.

Labor markets in manufacturing remain cautious: employment levels continued to trend down, albeit at a slower pace, reflecting firms’ reluctance to scale staffing ahead of a more durable recovery.

Conflict-Driven Energy Shock Risks Undercutting Growth

The manufacturing improvement may be at risk of a fresh setback due to spiraling energy costs tied to the Middle East conflict. Last weekend’s coordinated military strikes on Iran by the United States and Israel have rattled energy markets and raised the specter of a prolonged energy crisis. Brent crude prices surged sharply—up more than 8–10% at times—after the conflict disrupted tanker flows through the vital Brent crude trading routes and fears mounted over the closure of the Strait of Hormuz, which sees about a fifth of global oil traffic.

Analysts at banks, including UBS, have flagged that the Strait of Hormuz chokepoint, through which an estimated 20% of world oil supplies flow, could elevate crude prices even further if navigational risks persist or escalate.

Rising energy costs flow directly through to industrial producers in the euro zone, where energy intensity is relatively high in chemicals, metals, and heavy machinery sectors. Even if current donor countries attempt modest production increases, supply constraints near the Gulf and heightened insurance costs for shipping mean that delivered energy remains expensive.

European gas markets have also reacted. LNG futures in the region jumped amid reports of pipeline and facility disruptions, adding to industrial input cost pressures.

The energy shock risks reigniting price pressures at both producer and consumer levels. While headline inflation in the euro area hovered near ECB targets prior to February, a sustained spike in energy prices complicates the inflation outlook and the monetary policy path. Higher fuel costs for factories, freight, and logistics feed into broader goods price indices, making it harder for the European Central Bank to contemplate interest-rate cuts without risking inflation overshooting.

While business confidence across the region climbed to a four-year high in the PMI survey, reflecting optimism about the near-term demand rebound, that confidence now faces a significant test as geopolitical uncertainty, energy market volatility, and potential supply-chain bottlenecks weigh on sentiment.

The euro-area manufacturing sector may have broken its longest slump, but its ability to sustain momentum may likely be determined by how energy prices evolve and whether the broader conflict in the Middle East expands or is quickly contained. A prolonged energy shock, with oil prices maintaining their elevated levels or continuing to climb, could undercut demand, erode margins, and slow hiring plans, potentially reversing some of the hard-won gains noted in February’s PMI data.