Escalating conflict in the Middle East has pushed oil prices and U.S. Treasury yields higher, raising concerns that pressure currently concentrated in the bond market could soon spill over into equities.

Oil briefly climbed above $100 per barrel for the first time since May before easing slightly below that level on Friday. The surge was driven by fears of global supply disruptions as trade through the Strait of Hormuz slowed to a near standstill.

Treasury Yields Approach Critical Levels

Higher oil prices have revived inflation concerns and increased expectations that the Federal Reserve may need to raise interest rates. The benchmark 10-year U.S. Treasury yield rose to 4.71%, its highest level since January 2025.

Some investors view 4.75% as the point at which rising yields could begin to significantly pressure stock valuations. The 5% level is considered an even more important psychological threshold.

Higher interest rates reduce the present value of companies’ future earnings while making bonds more attractive relative to stocks. They also raise borrowing costs for consumers and businesses, potentially slowing economic growth.

Rising Capital Costs Could Challenge AI Investment

U.S. equities have remained relatively resilient this year, supported by strong earnings growth and optimism surrounding AI-related capital expenditure. The S&P 500 reached record highs as recently as early June.

However, rising borrowing costs could force major technology companies and hyperscalers to reassess their ambitious AI infrastructure spending plans.

If financing becomes more expensive, companies may need to determine whether their large capital investments can still generate sufficiently attractive returns.

No Clear Signal to Exit Stocks Yet

Despite increasing risks, many investors do not yet see the current environment as a reason to abandon equities.

Fed funds futures are pricing in approximately two 25-basis-point rate increases by the end of the year. However, some market participants believe these expectations are too aggressive, as recent economic data may not justify such a hawkish response from the Fed.

There is also no clear evidence that oil near $100 or higher energy costs will derail the corporate earnings growth that has supported the stock-market rally.

Conclusion

Rising oil prices and Treasury yields are becoming two significant risks to the U.S. equity rally.

Should the 10-year yield move above 4.75% and approach 5%, pressure on stock valuations, borrowing costs and AI investment plans could intensify.

However, as long as corporate earnings remain resilient and the Fed does not raise interest rates as aggressively as markets currently expect, the broader stock-market uptrend has not yet been broken.

Source: Reuters