The Bond-Salesman-In-Chief Has Fired The First Shot Of The Capital Market War That Follows The Trade War

By Benjamin Picton, senior market strategist at Rabobank

US equity markets approached record highs yesterday as traders basked in the afterglow of Donald Trump’s decision to (again) call off Iran strikes in favor of diplomatic efforts. The S&P500 closed almost 1.5% higher and the NASDAQ 100 was up by almost 1.8%. Sovereign yields pushed lower across Europe and North America with Treasuries likely encouraged by comments from Japanese Finance Minister Katayama yesterday that Japan intended to tap the Fed’s FIMA facility to defend the Yen in the future, thereby avoiding the necessity to sell Treasuries to fund Yen purchases.

The front Brent crude future fell by more than 7%, despite the fact that there is no confirmation of material progress in loosening restrictions on global energy flows. ICE gasoil futures declined by more than 8.5% despite Russia’s ongoing diesel export ban, continued Ukrainian strikes on energy infrastructure, the Houthis’ recent decision to spread the Iran conflict to Saudi oil infrastructure in the Red Sea and low water levels in the Rhine disrupting energy shipping and forcing freight rates higher. Similarly, Singapore gasoil spot prices were down by almost 11% yesterday. On those figures you would think all of the problems in product markets are solved. This again highlights the capriciousness of markets; it was only a few weeks ago that I was reading articles making straight-faced suggestions of an emerging oil glut.

While Hormuz certainly isn’t a Waterloo moment for Donald Trump just yet, he is obviously keen to find an offramp that satisfies key US strategic objectives of re-opening the strait without tolls, curtailing Iran’s nuclear program and regional influence, and – if at all possible – pushing Gulf states into the Abraham Accords and normalization of relations with Israel. Some progress has been made on the latter, but progress on the former two objectives continues to elude, giving this conflict more than a whiff of Middle-Eastern quagmires past.

While the Commander in Chief plays Battleship in the Gulf, the self-described bond salesman in chief, Scott Bessent, has possibly fired the first shot of the capital market war that we have long warned would follow the trade war and the now numerous proxy wars. All of these developments can be contextualized through the strategic competition between the United States and China, with Russia, the European Union, Iran, the GCC, Japan, South Korea, North Korea, Israel, Australia and others playing the role of proxies, satellites, supplicants, vassals, junior partners and bit-players to the two great powers. In this respect, the US Treasury’s support of the Japanese Ministry of Finance and the BOJ in defending the Yen may have been a financial Fort Sumter moment.

In supporting Japan’s efforts to defend its currency to stave off imported inflation pressures the USA not only takes out insurance against rising borrowing costs for the US Treasury while buying up assets that Bessent considers to be undervalued relative to Japan’s improving fundamentals, it also relieves competitive pressure on US manufacturers (currently in rude health according to yesterday’s manufacturing ISM) and pulls Japan closer into the US’ strategic orbit.

This is important as the Trump administration views Japan as an important partner for countering China’s dominance in industrial production – particularly shipbuilding, steel manufacturing and rare earths processing – and both partners have an interest in preventing Japan’s reflating economy from becoming an outlet for China’s production surplus. Might we see further Japanese restrictions on Chinese imports? Could the US decision to sell EUR (even in relatively small amounts) rather than USD have been a subtle message to Europeans about US policy capabilities?

Coordinated intervention between the Japanese Ministry of Finance and the US Treasury to manage the value of the Yen is perhaps the first concrete sign of the emergence of a new monetary order as foreshadowed by RaboResearch Global Strategist Michael Every several years ago in FX Wars. The post Bretton Woods system of mostly free-floating fiat with a constellation of international treaties intended to discourage state intervention and competitive devaluation has been on borrowed time due to the rise of neo-mercantilist China and the QE-driven currency devaluations of the 2010s.

Cooperation on managed exchange rates (and broader capital market dynamics) among allies may offer a path forward. However, intra-bloc accords only work if inter-bloc trade faces substantial barriers. Naturally, the US does not want to see a situation where the global role of the Dollar is undermined by developed market central banks holding larger and more diversified FX reserves, so watch as a system of “you scratch my back, I scratch yours” dollar swaplines emerges with common trade restrictions or other boons for US strategic interests as a kind of quid pro quo. Indeed, we have already seen this happen with the UAE’s decision to leave OPEC+ and coordinate with Israel on military matters following the extension of dollar swaplines.

So, once again we are witnessing momentous structural changes unfolding with geopolitical tensions forcing the pace. While it is certainly relevant and important, one shouldn’t be too captivated by the up/down moves of this week. What really matters is the signal for the medium to longer term.