Tag Archives: middle-east

How Long Can This Stand?

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The weekend saw fighting expand
And so, it’s supply, not demand
That’s driving up prices
In this oil crisis
The question, how long can this stand?

As such the G7 has mooted
An idea that, if executed
Could help reduce nerves
By drawing reserves
Thus, price pressures could be diluted

Oil gapped higher last night when futures markets opened as the war in Iran widened its scope.  There were more attacks on refineries in Iran, and there has still been limited transit through the Strait of Hormuz (although I read of a ship that turned off its locator beacon and made it through safely).  As you can see from the chart below, though, the initial panic has subsided somewhat.

Source: tradingeconomics.com

It seems that the key decline came after French President Macron, the current head of the G7, suggested a joint release of oil reserves across the group in an effort to stabilize prices.  It seems to me that while the G7 may have difficulty reaching some decisions, this one is pretty easy, and I expect that we will hear of this joint release shortly.

At the same time, Iran announced that the former Ayatollah’s son, Mojtaba, has been named the new Supreme Leader, and many assume this means they are hunkering down for a long fight. 

I am no military strategist, so take this for what it’s worth, but from what I have gleaned across numerous commentators, the Iranian strategy is to outlast the US and Israeli munitions which many have said are limited.  As well, they believe that by closing the Strait of Hormuz, they can inflict so much economic pain that the US will have to stop the fight.  Funnily enough, I have seen no commentary on the fact that by closing the Strait, Iran has essentially cut off all its own revenues as >90% of its oil sales transit the Strait.  The one thing we know is that the US will not run out of money.

The other thing at which I marvel is the incredibly low number of casualties on both sides of this war.  While there has been significant destruction of physical assets, even the Iranian propaganda has only claimed 1000-1500 dead, and in the US and Israel, the number is 20 total, I believe.

This feels to me like it is going to be pushed as hard as it can for a while longer and then one side is going to completely capitulate.  Whether that is the new Iranian regime crumbling or the US stopping the bombardment, I have no idea.  

In the meantime, let’s briefly discuss Friday’s payroll report, which was pretty awful, and then see how markets are behaving this morning.  By now, I am sure you have either heard or read about the NFP report which showed a headline loss of -92K, the largely offsetting January’s surprising gains.  As you can see from the chart below, no matter the details of any particular report, the trend over the past five years has been clear.

Source: tradingeconomics.com

If memory serves, the previous job losses shown here are the result of revisions to the original release and it has been more than six years (covid) since the headline number was negative in its own right.  Obviously, this is not the type of outcome the administration wants to see, but it is also important to remember the two significant changes we have seen over the past year: net outmigration along with deportations and a significant reduction in Federal government jobs.  Certainly, the latter is a net benefit in my eyes.  As to the former, it is exactly what President Trump promised in his campaign, so it cannot be a surprise.  Regarding its impact on the economy, I guess we will need to compare per capita outcomes to the total gross numbers to determine if the population is comfortable with the new reality.

But ultimately, financial markets did not like the data Friday, as we also saw fairly weak Retail Sales data.  Adding weak data to the war situation and rising oil prices led to weak equity markets in the US, and then the escalation over the weekend, saw equity markets around the world under pressure.  Once again, I believe a screen shot of things this morning is self-explanatory.  Those US prices are Friday’s closes.

Source: Bloomberg.com

As to US futures, at this hour (7:00), they are all lower by -1.25% or so, but as you can see from the chart below of the S&P 500 futures, they are well off the worst levels of the evening, essentially showing the same response to the G7 story as oil.

Source: tradingeconomics.com

While those Asian markets showed just Japan, China and Australia, the smaller regional exchanges had a very rough time, with declines between -2.0% (India) and -6.0% (Korea) and everywhere in between.

In the bond market, the oil price move has inflation back on everybody’s mind and that can be seen as yields around the world are higher across the board.  While Treasury yields are higher by 4bps this morning, you can see much worse outcomes elsewhere in the world in the Bloomberg screenshot below:

I think this is directly related to Natural Gas prices as while they are higher in the US this morning, by 5.75%, that is nothing compared to the gains in Europe (+17.5%) and the UK (+16.75%), which has simply widened the gap between US and European prices further.  In addition, the US remains an exporter of LNG, so there will be no supply questions at all, while Europe, with the Strait of Hormuz shut down and Qatar offline, has real problems sourcing gas, especially because they are trying to end supplies from Russia.  Good thing they shut down their nuclear plants as well, that will certainly help their energy situation!

Meanwhile, the metals markets are under some pressure this morning (Au -1.25%, Ag -0.95%, Cu -0.7%), with the former continuing to underperform in a risk-off scenario as I believe that margin calls are resulting in sales of the one thing that investors had with gains.  Copper, though, is probably starting to feel some strain regarding future economic activity as if oil prices do remain at these levels, global economic growth is going to be sharply impacted.  We will need to watch this carefully.

Finally, the dollar remains king.  CAD (+0.2%) is the only currency that is showing any support and that is, naturally, because they are a major oil exporter.  Interestingly, NOK (-0.7%) is under pressure this morning despite oil’s massive jump.  As to the rest of the G10, EUR (-0.5%) and GBP (-0.4%) are suffering as are JPY (-0.35%) and CHF (-0.3%) the erstwhile havens.  I imagine both of those are suffering given their entire reliance on imported energy.  In the EMG bloc, ZAR (-1.2%) and HUF (-1.3%) are the laggards, although CLP (-1.0%) is falling on copper’s decline as well.  ZAR clearly suffering from gold’s underperformance while HUF seems to be feeling some extra strain from expectations of central bank policy ease.  Remember, Hungary gets about 80% of its energy, both oil and gas, from Russia, which has been a key political issue in the EU.  Elsewhere, both APAC (KRW -0.5%, INR -0.6%, CNY -0.2%) and LATAM (BRL -0.65%, MXN -0.4%) currencies are suffering along with the rest of the world.  However, I would have thought both those last two should do better as both are oil producers and far from the action.  But right now, emerging markets are persona non grata to investors, so I expect that is the driver.

On the data front, there is nothing today, but we do get a few things this week:

TuesdayNFIB Small Business Optimism99.7
 Existing Home Sales3.90M
WednesdayCPI0.3% (2.4% Y/Y)
 -ex food & energy0.2% (2.5% Y/Y)
ThursdayInitial Claims215K
 Continuing Claims1850K
 Housing Starts1.35M
 Building Permits1.41M
 Trade Balance-$68.0B
FridayPersonal Income0.4%
 Personal Spending0.3%
 PCE0.3% (2.8%)
 -ex food & energy 0.4% (3.0%)
 Q4 GDP (2nd est)1.4%
 Durable Goods0.8%
 -ex Transport0.5%
 JOLTs Job Openings6.70M
 Michigan Confidence55.0

Source: tradingeconomics.com

In a very rare outcome, we get both CPI and PCE in the same week as the hangover from the government shutdown continues to wreak havoc with the schedule.  It remains an open question as to whether the data will matter as the war continues to hog the headlines.  But if nothing changes there, then watch the inflation data.  After the weak employment report, if we see calm inflation data, tongues will start to wag about a Fed cut, although if oil is still above $100/bbl, that will be tough optics.

Net, things are still quite confusing.  My take is that there were many underlying aspects of the economy that were under pressure before the war and they may become more evident with oil putting pressure on everything, well, everything except the dollar, which probably will continue to track higher for now.

Good luck

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Dine and Dash

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The president left in a flash
Completing a quick dine and dash
But so far, no word
On what, this move, spurred
Though I’ve no doubt he’ll make a splash
 
Then last night the BOJ passed
On hiking, though none was forecast
And Germany’s ZEW
Implied there’s a view
That growth there will soon be amassed

 

I have to admit that when I awoke this morning, I expected there to have been significantly more news regarding the Iran/Israel conflict based on President Trump’s early departure from the G-7 meeting.  But, from what I see so far, while markets have reversed some of yesterday’s hope that a ceasefire was coming soon, my read is we are back to overall uncertainty in the situation.  Of course, the concept of the fog of war is well known, and I expect that we will not find out very much until those in control of the information, whether the IDF or the US military, or Iranian sources, choose to publicize things.  The one thing we know is that everything we learn will be biased toward the informants’ view, so needs to be parsed carefully.  I do think that Trump’s comments to the press when he was leaving the G-7 about seeking “an end. A real end. Not a ceasefire, an end,” to the ongoing activities is telling.  It appears the Israelis planned on a 2-week campaign and that is what they are going to complete.

From a market perspective, as we have already seen in the price of oil, and generally all asset classes, absent a significant escalation, something like a tactical nuclear strike by the Israelis to destroy the Iranian nuclear bomb-making capabilities, I expect choppiness on headlines, but no trend changes.  At some point, the fighting will end, and markets will return their focus to economic and fiscal concerns and perhaps central banks will become relevant again.

So, let’s turn to that type of news which leads with the BOJ leaving policy rates on hold, although they did reduce the amount of QE to ¥200 billion per month, STARTING IN APRIL 2026!  You read that correctly.  The BOJ, which has been buying ¥400 billion per month of JGBs while they raised interest rates in their alleged policy tightening, has decided that ten months from now it will be appropriate to slow the pace of QE.  Yes, inflation has been running above their 2.0% target for more than three years (April 2022 to be exact) as you can see in the below chart, but despite a whole lot of talk, action has been slow to materialize.

Source: tradingeconomics.com

You may recall about a month ago when Japanese long-end yields, the 30-year and 40-year bonds, jumped substantially, to new all-time highs and there was much discussion about how there had been a sea change in the situation in Japan.  Expectations grew that we would start to see Japanese institutions reduce their holdings of Treasuries and bring their funds home to invest in JGBs, leading to a collapse in the dollar.  The carry trade was going to end, and this was another chink in the primacy of the dollar’s hegemony.  Well, if that is the case, it is going to take longer than the punditry anticipated, at the very least, assuming it happens at all.  As you can see from the charts below of both USDJPY and the 40-year JGB, all that angst has at the very least, been set aside for now.

Source: tradingeconomics.com

Elsewhere, the German ZEW data released this morning was substantially stronger than both last month and the forecasts for an improvement.  As you can see from the chart below, it is back at levels that are consistent with actual economic growth, something Germany has been lacking for several years.  It appears that a combination of the continued tariff truce, the promises of massive borrowing and spending by Germany to rearm itself and the ECB’s easy policy have German business quite a bit more optimistic that just a few months ago.

Source: tradingeconomics.com

Ok, while we await the next shoe to drop in Iran or Israel, let’s see how markets have behaved overnight. Yesterday’s nice rally in the US was followed by a mixed picture in Asia with the Nikkei (+0.6%) gaining after the BOJ showed that tighter policy is not coming that soon.  Elsewhere in the region, China, HK and India were all down at the margin, less than 0.4% while Korea and Taiwan managed some gains with Taiwan’s 0.7% rise the biggest mover overall.  In Europe, though, the excitement about a truce in Iran is gone with bourses across the continent lower (DAX -1.25%, CAC -1.05%, IBEX -1.5%, FTSE 100 -0.5%).  Apparently, there is fading hope of trade deals between the US and Europe and concerns are starting to grow as to how that will impact European activity.  I guess the ZEW data didn’t do that much to help.  US futures at this hour (7:00) are all pointing lower by about -0.5%, largely unwinding yesterday’s gains.

In the bond market, Treasury yields, which backed up yesterday, are lower by -3bps this morning, essentially unwinding that move.  However, European sovereign yields have all edged higher between 1bp and 2bps with Italy’s BTPs the outlier at +3bps.  Quite frankly, it is hard to have an opinion as to why bond yields move such modest amounts, so I’m not going to try to explain things.

In the commodity space, fear is back in play as oil (+1.7%) is rallying as is gold (+0.4%) which is taking the rest of the metals complex (Ag +2.3%, Cu +0.3%, Pt +3.0%) with it.  These are the markets that are most directly responding to the ongoing ebbs and flows of the Iran/Israel situation, and I expect that will continue.  In the end, I continue to believe the long-term trend for oil is toward lower prices while for gold and metals it is toward higher prices, but on any given day, who knows.

Finally, the dollar doesn’t know which way to turn with modest gains and losses vs. different currencies in both G10 and EMG blocs.  The euro, pound and yen are all within 0.1% of yesterday’s closing levels while we have seen KRW (-0.4%) and INR (-0.3%) suffer and NOK (+0.4%) and SEK (+0.4%) both gain on the day.  However, those are the largest movers across the board, so it is difficult to make a case that anything of substance is ongoing.

On the data front, yesterday’s Empire State Manufacturing index was quite weak at -16, not a good look.  This morning, we see Retail Sales (exp -0.7%, +0.1% ex-autos), IP (0.1%), and Capacity Utilization (77.7%).  As well, the FOMC begins their meeting this morning with policy announcements and Powell’s press conference scheduled for tomorrow.  Helpfully, the Fed whisperer, Nick Timiraos, published an article this morning in the WSJ to explain why the Fed was going to do nothing as they consider inflation expectations despite the lack of empirical evidence that those have anything to do with future inflation.  But it is a really good sounding theory.

For now, the heat of the Iran/Israel situation will hold most trader’s attention, but I suspect that this will get tiresome sooner rather than later.  The biggest risk to markets, I think, is that the Iranian regime collapses and a secular regime arises, dramatically reducing risks in the Middle East and reducing the fear premium in oil substantially.  If that were to be the case, I expect the dollar would suffer as abundant, and cheap, oil would help other nations more than the US on a relative basis given the US already has its own supply.  But a major change of that nature would have many unpredictable outcomes.  In the meantime…

Good luck

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