Inflation Persistence and Geopolitical Risk: Central Banks Reprice the Fixed Income Landscape.

A New Phase of Uncertainty

Global markets are entering a renewed phase of uncertainty as persistent inflationary pressures converge with escalating geopolitical risks. The ongoing conflict involving Iran, along with potential disruptions in the Strait of Hormuz, is materially impacting energy expectations and, by extension, inflation trajectories.

Central banks are increasingly signaling a “higher for longer” stance. Fixed income markets are already reflecting this shift, with an estimated 100 basis point upward pressure across 10- and 15-year hedged segments. If inflation remains sticky, further rate hikes as early as May or June remain a credible scenario. Mortgage financing costs are consequently expected to approach two-year highs.

Positioning: Staying Defensive

In this environment, we maintain a defensive positioning, prioritizing short-duration fixed income.

• Italian two-year government bonds yield above 3%
• 15-year maturities exceed 4%
• Selective opportunities remain at the short end of the curve

At the same time, the European Union is expected to significantly increase its debt issuance, adding further supply-side pressure to longer maturities.

Strategy

Our approach remains disciplined:

• Accumulate short-term exposure during market weakness
• Reduce positions tactically on news-driven rallies
• Defer duration extension until at least Q3
• Maintain preference for high-quality sovereign debt

Central Bank Signals: A Turning Point

At the policy level, divergence remains evident, but the core message is consistent: inflation risks persist.

• European Central Bank (ECB):
  Christine Lagarde signaled a possible rate hike in June. Rates remain at 2%, but the lack of clear disinflation keeps tightening on the table.
• Bank of England (BoE):
  Rates held at 3.75% (8–1 vote). Governor Andrew Bailey noted that energy shocks could require further tightening. Inflation is projected to exceed forecasts by +1.4pp in Q3.
• Federal Reserve (Fed):
  Rates unchanged, but internal divisions are widening. Four dissenting policymakers highlight growing uncertainty around the policy path.
• Bank of Japan (BoJ):
  Rates held at 0.75% (6–3 vote). Some members pushed for a hike to 1%. Core CPI for FY2026 is now forecast at 2.8%, while growth expectations were revised downward.

Governor Kazuo Ueda emphasized that inflation risks are skewed to the upside, while acknowledging downside growth risks linked to Middle East tensions. Market expectations for a June hike have since moderated.

Conclusion

The current macro environment reflects a delicate balance between inflation persistence and growth fragility.

For investors, this translates into a market where:

Discipline is essential

Liquidity management is critical

Tactical execution drives outcomes

Duration risk remains vulnerable.
In this cycle, patience is not just a virtue—it is a strategy.

 

Report by Leticia Diez Glenday
Our Senior Portfolio Manager @ Alcral AG I Global Macro