Stocks Fall, Oil Climbs as Mideast Unrest Deepens, Fed Decision Preview
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Bloomberg Audio Studios. Podcasts. Radio. News. Welcome to the Bloomberg Daybreak Asia podcast. I'm Doug Krisner. An escalation of tensions in the Mideast triggered more anxiety in markets in the last session. Oil prices jumped to a five-month high in New York trading on speculation the U.S. may join Israel's attack on Iran. WTI settled just under $75 after rising by more than 4%. Earthquakes

Earlier in the day, President Trump met with his national security team, and before the meeting, Trump posted a demand for Iran's unconditional surrender. On top of that, the president warned of a possible strike against Iran's leader, Ayatollah Ali Khamenei.

We heard from Australia's former ambassador to Israel, Dave Sharma. He said it's in Australia's interest to make sure that any tensions arising from this conflict do not manifest themselves in Australia. We should be looking to support diplomatic efforts, but

bearing in mind what it is the outcome that we seek. And we want a Middle East that is at peace with itself, that can grow and prosper. And the truth is that Iran has been a massively destabilising force in the Middle East now for decades, not only through its pursuit of nuclear weapons, not only through its imperialistic designs on its neighbours, but through its support to armed terrorist groups such as Hezbollah in Lebanon, the Houthis in Yemen, its propping up of the Assad regime.

In Syria, for many years, it's fermenting of Shia militias in Iraq.

What we would like to see is a situation where that sort of destabilization does no longer occur. Now, whether Iran is prepared to countenance that or not, or at least whether this particular leadership in Iran is prepared to countenance that or not, that is a question for them. That's Dave Sharma. He is Australia's former ambassador to Israel. By the way, the New York Times is reporting Iran has prepared missiles and other military equipment for strikes on U.S. bases in the Middle East.

should the U.S. join Israel's war against Iran. So let's stay with geopolitics for the moment. The AUKUS Pact is a security arrangement between the U.S., the U.K., and Australia. It was first announced in 2021 by then-President Joe Biden. But now the Trump administration is reviewing this agreement, and this is rattling one of Washington's closest alliances—

Joining me now is Bloomberg Opinion columnist Karishma Vaswani. She has been writing about the review and its ramifications. Karishma joins me now from Singapore. It's always a pleasure to chat with you, Karishma. Can we begin by having you remind me the structure of the AUKUS Pact?

Well, at the heart of this arrangement was an agreement between the US, the UK and Australia that would, again, as you pointed out, signed by President Biden in 2021, that would help Australia develop a fleet of nuclear powered submarines.

over a 30-year period. And it would involve both the U.S. and the U.K. America would provide superior technology. The U.K. would help Australia build these nuclear submarines. But ostensibly, it was also a way to counter China's growing influence in the Indo-Pacific. And at

the time when it was announced, China was very upset. It saw it as another example of the American supremacy, the desire to maintain that in the Indo-Pacific and as an attempt by the United States to contain China's influence and military and naval power, which has been, as we've talked about on your program before, growing rapidly over the last few years. But now, given that

The White House has come out and said that they're putting this agreement under review. They're going to look at whether AUKUS is aligned with the president's America First agenda. I'm quoting from the Defense Department there. And, you know, that's really sort of

making a lot of allies and partners in the Indo-Pacific nervous, not least the Australians themselves, who are really counting on this commitment from the United States. So I know that AUKUS involves, as I said earlier, the UK, Australia and the US. But when we think of other allies in the region, I'm thinking of Japan and South Korea. This probably would be a very concerning development to those countries as well.

Yeah, and I think it's even wider than that because it speaks to the commitment of the United States to the region. And it's really confusing, right, Doug? Because, you know, just a few weeks ago at the Shangri-La Dialogue, which is this regional security summit held in Singapore, you had the U.S. Secretary of Defense Pete Hegsa talking about the U.S. commitment to the Indo-Pacific. He said that America is here to stay. The Chinese didn't show up this time the way they haven't.

in the past, so that was a really easy win for the Trump administration to point out that Washington is really committed to this region. But it comes with a sort of transactional aspect because he also talked about the need for allies, Asian partners, to boost defense spending, very much what you hear from

you know, the Trump administration when it talks to Europe as well, that it's like basically everybody needs to pay more and this can't be the United States responsibility. And that's fine. There are reasons behind that. That's perfectly reasonable. But it does feel sometimes that it's a bit of a carrot and stick relationship. You know, you have to pay more or we're going to pull out of AUKUS, for instance, which

appears to be the undercurrent behind the rhetoric of the Defense Department when it comes to this particular deal. And I think what that does is it just, you know, it doesn't build goodwill. It doesn't create the kind of partnership that you need with one of your closest allies in this part of the world.

So, Karishma, we have seen among NATO countries a definite willingness to spend more of their GDP on military defense. I'm thinking of Germany in particular. Obviously, this is tied to war in Ukraine.

Can you give me a sense of the willingness of the countries in the AIPAC to spend more if we're using AUKUS as an example of some type of cooperation with the United States that would ultimately help these countries defend against some perceived threat that China represents? Yeah, I mean, I think that's a really good point. And we've seen the commitments coming through loud and clear. You know, everybody from Japan to Taiwan to Australia itself

They've been talking about arming up and you're seeing a trend across Asia for defence budgets. They've been on the rise. Everybody's spending more on defence. And I think the statistic for Australia, currently Canberra has military spending at about 2.4 percent or it's on track rather to achieve that by the mid 2030s.

But the United States wants Australia to up that to three and a half percent of GDP. So, you know, it's the gap between what the U.S. wants and what is currently on offer. And each country has its own sort of particular and unique circumstances to be able to try and achieve that. But

On the whole, across the board, the Trump administration, I think, has been quite successful in convincing Asian countries that they need to spend more on defense. So how do you think this is being viewed in Beijing? Oh, I think that this makes China very happy because, you know, on the one hand, there are now real concerns over whether AUKUS will go ahead in its original form. My view is that it will. I think that the United States would...

Even given the Trump administration's transactional nature, I do not think that the White House would allow this security agreement to fall by the wayside. It would be problematic and possibly embarrassing. But I think that there will be compromises and concessions made on the part of the Australians who will feel compelled to do some of the things that the United States may be asking for behind closed doors.

And what that does is play into Beijing's narrative that America first means other countries alone. And, you know, China has consistently positioned itself as the global, sensible, rational leader in the Indo-Pacific, given what appears to be sort of an erratic, you know, behavior, the erratic nature of how Donald Trump does business on the global stage.

And I think that these kinds of agreements and the reviews of these agreements just add credence to that narrative. And even if they're not saying it publicly, because, you know, the Australians have been very quick to sort of defend the review and dismiss it as just business as usual. I've spoken to diplomats who've said to me, well, it's not a great look. And it does mean that countries like Australia are going to have to think and are already thinking differently.

about what this means in terms of future alliances. So you're going to start to see, you know, Japan, Australia, South Korea coming together, maybe India as well, to sort of find a way through working without the superpowers. They can't do it completely. But I think you're going to see a lot of middle and smaller countries banding together as it

as these larger nations sort of, you know, have this each country for themselves approach to global politics. So imagine for a moment that the U.S. does play a diminished role in AUKUS. Can you imagine a world where the Europeans, let's say, step in to fill some of that void?

Yeah, I can. And I think that's been talked about already. You know, the Europeans have been in the past, certainly recently talking to the Australians about what kind of military engagement or any kind of partnership that they could work on. It would be challenging given the number of countries in Europe, but not impossible.

And again, I think these are the kinds of partnerships that we will see being formed going forward. And I think they are necessary. In fact, I think they are essential because countries cannot navigate this next period of what appears to be this sort of, you know, I hate using this word, but multipolar system that's happening.

That's the nature of politics these days. And I think they're going to have to band together in that way. No doubt about that. Karishma, it's always a pleasure. Thank you so much. Karishma Vaswani, a Bloomberg Opinion columnist, joining from Singapore here on the Daybreak Asia podcast.

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Welcome back to the Daybreak Asia podcast. I'm Doug Krisner. So the Fed's two-day meeting will wrap on Wednesday afternoon, and the central bank is expected to hold rates steady this month and in July as well.

And at the same time on Wednesday, the Fed may telegraph its intentions through its revised economic and rates forecast. Now, markets right now are continuing to bet on the likelihood of two quarter point rate cuts this year, the first move perhaps fully priced in for the October meeting.

Today, we had yields down right across the treasury curve. And to help us take a look at what's happening in the macro and especially in the fixed income space, I'm joined by Bill Campbell. He is Global Bond Portfolio Manager at DoubleLine. Bill is on the line from Santa Monica, California. Bill, thank you for making time to chat with me.

Talk to me a little bit about the moving parts that you see in the macro right now and how they fit with the inflation story, particularly as it relates to the spike that we have seen over the last couple of days in crude oil.

Doug, thanks for having me back. And, you know, what a time to come back and discuss macro. There are countervailing forces happening across the macro landscape at the moment, and you see them playing out in the interest rate market. When we look at long-term rates, you were just mentioning the rally that we've seen today. But if you look back

uh you know just for the past month we've seen rates rising uh you know moving ever higher uh it's our view here at double line that uh you know the that medium term pressure or the likely trajectory for rates especially on the long end of the curve over the next quarter is higher but near term uh

We're seeing now Treasuries exhibit a little bit of that flight to quality or flight to safety property that they'd had in the past due to the increased geopolitical concerns around Israel's current operation in Iran and the potential for the US to

potentially strike the Fordo enrichment facility in Iran. Now, that being said, the countervailing force to that rally that we saw is exactly what you alluded to is higher oil prices.

Over the past quarter, we'd actually seen oil prices falling to a local low. And just over the past couple of weeks, with these rising tensions in the Middle East, oil prices have again spiked from the low 60s up to the mid 70s.

And as you know, oil prices have wide, have kind of a wide reach in the way that they impact the economy and prices in general. And the concern here is that over the next couple of months, higher oil prices could lead to higher gas prices, higher shipping prices, and that could put upward pressure

on inflation, which then would counteract some of this flight to safety that we've seen. So the balancing act that we are really watching play out in the long end of the US Treasury curve is this back and forth of will increased deficits, the potential for higher inflation, and

you know, the pulling back of purchases by global central banks of treasuries pushing rates higher be offset by the potential, you know, flight to quality that we had seen in the past.

There's one caveat to all of this. When the tariffs were initially announced by the Trump administration, something strange happened in the long end of the interest rate curve. We actually saw yields rise. And that was counterintuitive to the flight to safety trade that we have gotten used to over the past three decades.

And the return on the geopolitical concerns is another nuance that we need to separate as fixed income investors of will the market view an upcoming hiccup to growth as more of a US specific growth shock with a US led slowdown or a global growth shock with a global growth slowdown potentially driven by the geopolitical concerns.

And the answer to that question will answer in the near term which way interest rates may trend. But on the long term, we think that over the next several quarters to the next year, the pressure still should be higher on interest rates. So we had the meeting yesterday from the Bank of Japan, and not surprisingly, the BOJ held its policy rate steady at 50 basis points.

The BOJ also announced a plan to begin to slow the pace of its bond market buying, the JGB purchases that the BOJ has been conducting. What is your understanding of how that's going to impact the global bond market story?

Yeah. So the reduction of, you know, their quantitative, you know, their tapering program is not actually going to, you know, be implemented until April or the second quarter of 2026.

The reason that they did that, though, is we had seen a tremendous spike across the Japanese government bond curve, Japanese government yields rising ever since the Bank of Japan decided to stop their yield curve control policy about a year and a half ago. And that's caused a lot of concern about the pass-through from higher yields to the Japanese economy.

And obviously, this is one step in the direction of trying to curb the pace of the rise of Japanese interest rates. But the rise of Japanese interest rates

happening alongside the rise in U.S. interest rates, the rise in long-term United Kingdom interest rates. And I think that this is now a global issue that all central banks and all treasuries and ministries of finance are going to have to think about and deal with going forward, that

long-term interest rates continue to rise and I think are rising on a secular basis. And when we look at the outlook for the fiscal trajectories, not only in the United States, but in the United Kingdom and in Japan, and to a certain extent in the European Union, when you look at countries such as France,

they have a very difficult trajectory, very difficult outlook that is likely to put continued pressure not only on U.S. and Japanese interest rates, but I think long-term interest rates across the global government bond market. And that's why at DoubleLine, you know, we're continuing ourselves and to, you know, talk to our investors about favoring more of the belly to the front end of the interest rate curves

Because we still believe that interest rates between the two-year and let's say the seven-year or the two-year and the 10-year maturities should exhibit that flight to safety quality and you can pick up high quality yield. It's once you go to those longer tenors past

10 years that you're really starting to deal with these long-term forces that may be signifying a structural change to what we've seen over the past several decades. You know, it was only a couple of weeks ago when global bond markets were unnerved by the issues around fiscal deficits, not just here in the U.S.,

but jurisdictions like Japan as well. And I'm curious, has the concern over fiscal deficits really faded into the background where the bond market is concerned?

The fiscal policy, I think it first of all, I think when we look at markets, unfortunately, it seems that, you know, markets have a difficult time trying to hold on to multiple themes at once. And, you know, we focus on different themes, you know, as we move through time. And as an example of this,

You know, first, you know, around April, around Liberation Day, the main theme that we focused on was tariffs and what new U.S. foreign policy would do to the bond markets, putting upward pressure on interest rates. Then we moved over, you know, to focusing on fiscal, which has been the past month or so, you know, focus for long term bond yields.

Just recently, the new geopolitical concerns that popped out of the Middle East have taken the front and center focus. And I think that is really what we're trading now. But we need to break out as investors what is a short-term cyclical move, which may be a move over the course of a couple of weeks to a couple of months, versus the long-term secular move, which is the general trend that tends to last quarters or even years.

And in that respect, you know, we do think, you know, there may be a potential for a little bit more rally if we see the U.S. enter into the Israeli-Iran conflict with the bunker buster bomb to try to, you know, address the Iranian Fordow enrichment facility. That may cause a little bit more near-term flight to safety.

But over that longer term, the structural quarterly or yearly trend, we tend to think that the forces that we discussed are likely to keep upward pressure on interest rates. And that's until

unless and until we see a break, a change in fiscal policy, in broad central bank policy. Central banks, again, are stepping back from their purchases, which is removing price insensitive buyer from the market and allowing interest rates to rise.

And we need more clarity around our long-term inflation forecast. As we discussed, there's lots of questions about tariff pass-through and energy price pass-through. Until those bigger questions are answered, we think that the longer-term trend of interest rates is still higher. Bill, before I let you go, let's talk a little bit about what's going on, the dynamic in the currency market right now. You mentioned the haven trade.

and perhaps the idea that U.S. treasuries would be a beneficiary. I'm imagining that the dollar would be a beneficiary as well. Certainly, that's what today's price action seemed to indicate. And frequently, the yen is a beneficiary of haven buying as well, but that didn't really seem to be playing out today. How is everything that you're kind of laying out there connected to foreign exchange?

Yeah, I think the dollar is probably front and center for most investors right now. So let's discuss that piece in just a little bit more detail. After Liberation Day, we've seen, well, really after the new President Trump came into office, and then especially after the liberation tariff announcements, we've seen a

a pretty aggressive move lower in the dollar. There have been a lot of reports that this has been foreigners starting to dump their large investments in the US, but I have really not seen significant evidence that that is the case. In fact, what I think has been happening is, yes, there's been a large amount of foreign investment in the US, but a lot of that investment was left unhedged

up until this year because hedges are expensive. So for the first couple of quarters of this year where the dollar came down about 9%, 10%, I think that was more reflective of foreigners increasing the hedges that they had on their dollar investment. And I think that is now roughly played out.

Now, the theme, the macro theme is now switching from uncertainty about U.S. policy to uncertainty about global growth. So with increased geopolitical risk, now the uncertainty has shifted from the U.S. to the globe.

And if that continues, I can see a near-term upward pressure on the dollar, again, in this, let's call it two-week to a couple of months cyclical trend.

But ultimately, we believe at DoubleLine that the secular trend has started with the dollar over the next couple of years is likely to trend lower. And the idea really underpinning this is that the massive amount of foreign savings that's come into the United States over the past three decades

which the bea now estimates as of the end of 4q24 the latest data available at 62 trillion of foreign savings or foreign investment in the united states uh you know that is an overweight position and we think some of that can start to unwind that there will be portfolio diversification

of that back towards home countries. And then secondly, we think that the idea that the dollar is going to continue to be the main unit that underpins global trade, we think that that is also going to continue to erode as we've already seen it, evidenced by central banks now signing memorandums of understanding between each other to settle trade between their countries in their own currencies.

So, for example, why should Australia and Singapore need the US dollar to settle trade between those two countries? In fact, they should, as developed economies, accept each other's currency, which they now are. And over time, their reserve currency baskets are going to reflect that, increasing the holdings of each other's currencies while

simultaneously decreasing the holding of the dollar. So for those two structural reasons, we think that over time, the trend of the dollar on the long-term basis should continue to trend down. But near-term, we first need to get through the near-term geopolitical risks that may cause a little bit of this flight to safety reversal in the dollar higher just over

you know, the very near term. Bill, we'll leave it there. Thank you so very much. Bill Campbell there. He is Global Bond Portfolio Manager at DoubleLine, joining from Santa Monica, California, here on the Daybreak Asia podcast.

Thanks for listening to today's episode of the Bloomberg Daybreak Asia Edition podcast. Each weekday, we look at the stories shaping markets, finance, and geopolitics in the Asia Pacific. You can find us on Apple, Spotify, the Bloomberg Podcast YouTube channel, or anywhere else you listen. Join us again tomorrow for insight on the market moves from Hong Kong to Singapore and Australia. I'm Doug Krisner, and this is Bloomberg.

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