Middle East tensions keep oil prices elevated, diesel at record

On Labor Day, the US saw average gasoline prices at $4.14 per gallon, nearly a dollar above last year's level, while diesel hit an all-time high of $5.85 as the crisis in the Middle East continues.

Although the US president said in early August that his country had full control of the Strait of Hormuz, only about 10 commercial vessels have transited the strait daily over the past 10 days—the lowest since May and down from more than 15 just days earlier—as attacks in the area have increased.

In addition, Yemen's Houthis struck energy facilities and cities in Saudi Arabia on Tuesday, leading the Saudi Energy Ministry to announce that operations at some energy sites had been halted.

Then there is the Russia-Ukraine conflict, with Ukraine continuing to strike Russian refineries.

Why haven't oil prices climbed above $100 a barrel?

On one side, alternative routes are helping sustain supply flows through Saudi Arabia, Iraq, the UAE, and Egypt, plus higher output from the US, Canada, and Guyana. On the other side, weaker Chinese imports and softer global demand are helping hold prices down.

Nevertheless, Goldman Sachs warns that oil could surge to $120 if strikes on tankers intensify and export disruptions worsen, which would then push up the cost of everything from oil products to transport and eventually food and delivery.

Therefore, there is a risk of tighter monetary policy from central banks, including the Fed, which now has about a 60% chance of raising rates next week after stronger-than-expected labor data. If August inflation on Friday also comes in hotter than expected, those odds would climb further.

In Europe, with inflation rising to 3.3% in August from 2.9% in July, markets are pricing in another ECB rate hike from 2.25% to 2.50% at Thursday's meeting. President Christine Lagarde will likely avoid giving direct clues about further moves, stressing that decisions will depend on incoming data.

In Japan, the BOJ is also expected to lift its key rate to 1.25% at its September 17–18 meeting, maintaining its hawkish stance and adding to the yen's recent strength, which is weighing on the USD JPY pair.

Overall, the sentiment has turned back toward higher rates, which explains the increased nervousness in global bond markets. The longer yields stay elevated, the greater the chance that money moves out of riskier assets and into bonds. For now, though, markets are holding up well.