By Michael Brown, Senior Research Strategist at Pepperstone
DIGEST – A brutal sell-off across DM rates sparked a further souring in risk appetite as last week wrapped up, while geopolitics remains in focus as the new trading week gets underway, amid President Trump’s looming ultimatum deadline on the Strait of Hormuz.
WHERE WE STAND – A wild Friday to wrap up a wild week, kind of fitting I suppose.
Suffice it to say that Friday proved to be another risk-averse day across the board, though at least it made a change that it was rates ripping higher across DM that shredded sentiment to bits, as opposed to any fresh geopolitical developments.
Of course, the chunky moves that we saw in Govvies – with the 10-year Gilt above 5% for the first time since the GFC, the 10-year Bund above 3% for the first time since 2011, and the 10-year Treasury rising back to 4.40% – do stem from the geopolitical backdrop, as almost everything does right now. The trigger for this latest lurch higher in DM yields was the unexpectedly hawkish BoE, and to some extent ECB, decisions that we saw on Thursday, with the former in particular indicating a preparedness to tighten policy if required to ensure that the 2% inflation target is achieved over the medium-term.
Quite why any central bank would seek to tighten policy into an energy price shock, at a time when oodles of labour market slack is present, and broader economic momentum is anaemic at best, is beyond me! Frankly, that is the very definition of a ‘policy mistake’, which would amplify the demand destruction that higher commodity prices will likely cause, thus risking a much deeper economic slowdown, and a subsequent substantial undershoot of the inflation aim.
Regardless, markets seem convinced that hikes are coming. Swaps at one point on Friday saw a better than even chance that the Fed deliver a hike by year-end, while also pricing almost four BoE hikes by the end of 2026, as well as 75bp of tightening from the ECB. I remain unconvinced that even one hike will be delivered, let alone all of that lot, but will say with some confidence that IF policy is tightened this year, that tightening – and more! – will be unwound in pretty short order, as an inevitable growth crunch makes itself known, forcing the ‘powers that be’ to eat a pretty big slice of humble pie.
Anyway, we will revisit that theme quite a lot in coming weeks, I’m sure. Plus, in any case, it takes a brave – or perhaps foolish – man to be receiving rates right now, with that trade akin to picking up pennies in front of a steamroller.
Back to Friday, and as I alluded to it was a risk-off end to the week, with stocks taking a leg lower as participants understandably trimmed positioned even further ahead of the weekend, crude benchmarks gained some modest ground, precious metals continued to lose their shine, and the dollar again showed that it’s the only haven which ‘works’ right now.
Picking the bones out of that lot, there isn’t really much by way of new information to digest.
Participants understandably remain cautious to ramp up risk levels significantly in light of the ongoing geopolitical uncertainty, with a potentially more hawkish monetary policy outlook now posing another headwind for stocks in the short-term. Gold, and silver, meanwhile, continue to trade more like risk assets than safe havens, which makes sense given not only the heavy degree of speculative and leveraged positioning present in both, but also considering that non-yielding assets hardly appear attractive in a market where yields are heading through the roof. The greenback, though, very much still is a safe haven, defying all the ‘death of the dollar’ nonsense that we’ve had to put up with over the last year or so, even if that haven status is somewhat being achieved by default, given that the JPY can’t be bought due to Japan’s status as a huge energy importer, and that the SNB are likely to step in to prevent too significant an appreciation in the Swissie.
On the whole, those cautious tones seem set to prevail for a little while yet, even if the sell-off in DM rates feels rather overdone, it’s tough to see participants having much desire to increase long risk positions while the geopolitical backdrop remains as fluid as it as at present. Added to which, we have month/quarter-end to get through this week, and then a holiday-shortened Easter week right after.
I guess that’s even more the case when one considers the two-day ultimatum that President Trump gave Iran to open the Strait of Hormuz, threatening to “hit and obliterate” power plants in the country if Iran doesn’t comply. Time will tell whether that’s another ‘escalate to de-escalate’ gambit, but the mixed messages we continue to get from the Admin, especially with this coming a day after Trump toyed with ‘winding down’ military operations in the region, certainly aren’t helping matters.
To be clear, over the medium- and longer-run, I am very much still an equity bull. But, unless we see material de-escalation, or progress in reopening the Strait of Hormuz, it’s pretty difficult to advocate for dip buying over a short time horizon right now.
LOOK AHEAD – Geopolitical events will remain the market’s main, if not sole, focus this week, as has now been the case for some time.
The data docket is, in any case, not the busiest. The latest round of ‘flash’ PMI surveys will give us some indication as to the initial economic impact that the ongoing conflict, and energy price shock, is having on most DM nations, while the plethora of CPI releases due are all too stale to matter especially much.
Besides that, front-end and belly Treasury supply should be taken down relatively well, while a busy docket of central bank speakers awaits, where any pushback especially from the ECB and BoE on the recent hawkish repricing of rate expectations will be particularly noteworthy.