Global bond markets endured a severe sell-off in September, posting their worst monthly performance in years, while equities displayed unusual resilience in the face of sharply rising borrowing costs, drawing wide attention to the divergence between the two major asset classes.

Ten-year US Treasury yields climbed more than 45 basis points over the month, touching levels last seen in June 2007 and marking the largest monthly increase in roughly two years. German and French 10-year yields reached 17-year and 18-year highs this week, with quarterly gains of about 70 basis points and 120 basis points respectively.

Drivers of the yield surge included deteriorating fiscal positions across major economies, excess bond supply, and inflation pressure from energy costs pushed higher by a seven-month US-Israel war with Iran.

Meanwhile, New York Fed President John Williams recently voiced clear opposition to preemptive policy tightening, nudging 2-year Treasury yields slightly lower, though the yield still gained more than 50 basis points over the month, with market disagreement over the policy path unresolved. On the equity side, strong earnings growth, global economic resilience and persistent enthusiasm for artificial intelligence continued to support risk assets, with stock indices in Europe, the US and Asia broadly posting positive quarterly returns or limited losses, in stark contrast to the rout in bonds.

Bond market under pressure: fiscal, supply and energy triple blow

Global bond markets faced multiple headwinds in September. Worsening government fiscal positions pushed up sovereign credit premiums, heavy primary market supply intensified price pressure, and elevated energy costs from the US-Israel war with Iran further strengthened concerns about persistent inflation.

Ten-year US Treasury yields stood at 5.209% in European morning trade, up more than 45 basis points from the start of the month, the largest monthly rise in about two years. German and French yields touched multi-decade highs this week, with quarterly gains of roughly 70 basis points and 120 basis points respectively. Japanese 10-year yields also hovered near multi-decade highs, up about 38 basis points for the quarter.

Carlo Franchini, head of institutional clients at Banca Ifigest in Milan, said: "We have reached yield levels that are truly significant, and the impulse for investors to pull money out of the stock market could become a problem." As the pricing anchor for global markets, the rapid climb in sovereign yields directly raises reference costs for equities, mortgages and corporate financing.

Williams' remarks: tightening expectations on hold, but market disagreement persists

John Williams' comments brought brief relief to short-end rates. Two-year Treasury yields edged down 1.9 basis points to 4.870% after his remarks, but still gained more than 50 basis points over the month, showing that market pricing for policy tightening has not fundamentally reversed.

Williams' explicit opposition to early tightening somewhat suppressed expectations for faster Fed action, but the yield curve overall remains elevated, indicating that investor concerns over the inflation outlook and fiscal sustainability have not faded. The tension between the bond market and policy expectations forms one of the core contradictions behind the current divergence in cross-asset pricing.

Stocks defy gravity: earnings growth and AI enthusiasm hold the line

Despite the sharp rise in borrowing costs, global equities have shown notable resilience overall.

Europe's pan-regional STOXX 600 index rose 0.6% on the day, down just 1.4% for the month and roughly flat for the quarter. The MSCI Asia-Pacific ex-Japan index fell about 1.1% for the month, while the Nikkei 225 gained 0.6%. Nasdaq futures and S&P 500 futures both edged higher.

Mohammed Apabhai, head of Asia-Pacific trading strategy at Citi, noted in a report: "What surprised us was the calm reaction in stocks, with nominal GDP growth driving earnings optimism." He also pointed out that the US equity market's response to rising yields was concentrated outside the technology sector, with tech stocks relatively resilient thanks to AI themes.

Carlo Franchini said he has not yet taken profits on equities and is betting that if tensions around the Strait of Hormuz ease and oil prices fall, stocks could continue to find support in October. "In my view, it is more appropriate to stay long."

Dollar strengthens, euro falls to 16-month low

Rising yields drove the dollar to a monthly gain of about 2% in September, despite a modest 0.1% dip on the day.

The euro fell to near a 16-month low at $1.1346, down about 2.3% for the month, weighed down by both the global energy shock and European political risks.

Sterling fell about 2.1% over the month. The yen, meanwhile, edged up about 1.7% to 156.95 as markets remained wary of the risk of joint intervention by Tokyo and Washington.

In commodities, Brent crude traded at $102.47 a barrel and US crude at $89.41 a barrel, both posting monthly gains, supported by concerns over continued supply disruptions from the Middle East war. Spot gold rose 0.44% to $4,199.28 an ounce.

Behind the divergence: potential cracks in risk appetite and policy expectations

The coexistence of a battered bond market and firm equities reflects an inherent split in current market views on risk appetite and policy expectations. Bond market pricing logic points to persistent inflation, mounting fiscal pressure and the risk of policy tightening, while the equity market is anchored more to the real support of earnings growth and the long-term AI-driven narrative.

Whether this divergence can persist depends largely on the trajectory of energy prices and the evolution of geopolitical tensions. If oil prices fall on easing Middle East tensions, bond market pressure could ease and the stock-bond gap could narrow; conversely, if yields continue to climb, the "impulse to pull money out of stocks" that Carlo Franchini warned about may gradually become reality, and the resilience of equities will face a much tougher test.