Ceasefire Agreement Between Israel and Iran Triggers Complex Financial Chain Reactions

News of a ceasefire agreement between Israel and Iran triggered an immediate and complex response in global financial markets. First, U.S. Treasury yields, which had been surging, dropped across the curve. Meaning, bond prices rose.

(Source: Yahoo Finance)

(Source: Yahoo Finance)

Equity markets, including the S&P 500, rebounded on the news.

(Source: Yahoo Finance)

Expectations for Federal Reserve rate cuts expanded from two to potentially three cuts this year.

(Source: Yahoo Finance)

Oil Shock Reversal: The Unwinding of the Geopolitical Risk Premium

Perhaps the biggest immediate beneficiary of the ceasefire was the oil market. WTI crude futures, which had recently spiked, fell 2.61%, dropping below $67 per barrel (see graph below). This move reflects more than just eased supply concerns.

(Source: Bloomberg)

Over the past two weeks, heightened tensions in the Middle East had added a $6–$8 geopolitical risk premium to oil prices. That surge had in turn contributed to rising U.S. inflationary pressures, complicating the Fed’s policy path. Fed Chair Jerome Powell and other officials had warned that rising energy costs could have secondary effects on core inflation, eroding real household income and increasing corporate costs, thus fueling stagflation.

Bond Market Sends a Nuanced Signal

The recent drop in U.S. Treasury yields is not easily explained by a flight to safety. More fundamentally, the shift appears to reflect evolving market expectations about the Fed’s policy trajectory.

Research shows that roughly 50% of Treasury yield changes can be attributed to “yield news shocks.” Under this framework, the Middle East ceasefire signals more than reduced geopolitical risk. It implies a broader reopening of policy space for the Fed. As oil prices decline and inflationary pressures ease, the Fed gains greater flexibility to respond to labor market weakness or economic slowdown. This dynamic may explain the yield pullback.

Repricing in Dollar and EM

Emerging market currencies also gained on the ceasefire. As the dollar index fell 0.3%, Asian currencies, including the Korean won, strengthened. This pattern reflects the classic response to rising Fed rate cut expectations.

However, a weaker dollar is a double-edged sword. In the short run, it can boost capital inflows into EMs and lower import costs. But especially given the country’s persistent trade deficit, it may also stoke U.S. inflationary pressures by increasing the cost of imports.

The Fed’s Dilemma: Will July Deliver a Rate Cut?

Markets now price in a 20% chance of a rate cut at the July FOMC meeting—up from 0% just a week ago. Still, the path to a rate cut remains uncertain.

First, the Fed typically requires clear signals from both sides of its dual mandate—maximum employment and price stability—before shifting policy. The labor market remains resilient, and recent employment data supports a soft landing.

Second, the Fed adheres to a principle of not reacting to short-term market fluctuations. Adjusting policy in response to temporary geopolitical developments could undermine its credibility.

The ceasefire between Israel and Iran is clearly a positive development. It has reduced geopolitical tensions, increased risk appetite, expanded Fed policy space, pressured the dollar, and redirected capital into emerging markets (KOSPI broke above 3,100 today). Yet, this evolving environment demands caution. Investors must adapt to these changes while managing heightened uncertainty. It remains to be seen whether current shifts mark a temporary repricing or the beginning of a longer-term trend.