Gundlach’s view is grounded in recent market data. Since the escalation of U.S.-Iran tensions in late February, the two-year Treasury yield—highly sensitive to monetary policy expectations—has climbed more than 50 basis points in under three weeks. On March 19, the yield briefly jumped 18 basis points intraday to 3.95%, significantly above the Fed’s current policy rate range of 3.50% to 3.75%.

Futures markets now reflect a major shift in expectations. Traders are pricing in a 77.3% probability that rates will remain unchanged through 2026, while the likelihood of a rate hike by December has risen to 6.4%. Although still relatively low, the directional shift is notable: just a month ago, markets were focused on how many rate cuts might occur. Now, investors are beginning to price in the possibility of tightening. Interest rate swaps markets have effectively removed expectations for any policy easing this year.

Bond yields move inversely to prices. Rising yields indicate falling bond prices—suggesting that investors are not flocking to short-term Treasuries for safety, but rather selling them. This breakdown in typical “safe-haven” behavior is itself a warning sign. Derek Tang, an economist at Monetary Policy Analytics, said the current environment “does evoke memories of 2007–2008,” when cracks began to emerge in the financial system.

Just weeks ago, the dominant narrative was that the Fed would cut rates twice this year. However, as geopolitical tensions intensified and Brent crude surged past $118 per barrel, inflation expectations have rebounded sharply. More importantly, Fed officials themselves have begun to acknowledge the possibility of alternative scenarios.

At a press conference on March 18, Fed Chair Jerome Powell confirmed that policymakers had discussed whether the next move could be a rate hike, although he stressed this is not the base case. Dan Carter, senior portfolio manager at Fort Washington Investment Advisors, noted that Powell appears “more concerned about inflation” than the potential drag on growth from higher oil prices.

Analysts say those concerns are not unfounded. BNP Paribas interest rate strategists estimate that if energy prices remain elevated and U.S. unemployment stays stable, the Fed could signal a potential rate hike as early as its April meeting. The bank also noted that even without Middle East tensions, progress on U.S. inflation may remain limited.

Global Central Banks Turn More Hawkish

The shift in Fed expectations is part of a broader global trend. On March 19, the Bank of England unanimously voted to hold rates steady while warning it stands ready to act against inflation risks stemming from Middle East tensions. The statement triggered a sharp market reaction, with two-year UK gilt yields surging more than 35 basis points in a single day to 4.46%, dragging European bond markets lower and adding pressure to U.S. Treasuries.

European Central Bank President Christine Lagarde also warned that the conflict has increased uncertainty and poses upside risks to inflation. The ECB has raised its inflation forecast for this year from 1.9% to 2.6%, and cautioned that under more severe scenarios—such as major damage to energy infrastructure and prolonged supply disruptions—inflation could approach 5% next year.

With two-year Treasury yields rising rapidly and trading above the Fed’s policy rate range, markets are being forced to reassess the policy outlook. While a rate hike is far from certain—Powell continues to stress it is not the baseline scenario, and futures markets assign only a modest probability—the yield curve is clearly signaling a shift in expectations.