Daily Market Comment – Markets rattled by reports of shelling in Ukraine

  • Reports of skirmishes on Ukrainian border revive the geopolitical trade 
  • Stocks cannot sustain boost from Fed minutes, oil and gold recover
  • Dollar and yen come back to life, risk sentiment in the driver's seat
Ukraine conflict heats up

Geopolitical worries have taken investors on a wild roller coaster ride this week, which is still going. The tranquility that markets enjoyed yesterday came to an abrupt end after Russian-backed separatists in Ukraine accused government forces of opening fire on them. Ukraine’s military quickly denied that, saying it was the rebels who shelled them instead.   

The reports breathed some life back into the geopolitical trade, but there was no sense of panic in the markets. In fact, most asset classes erased the initial move, with the dollar even trading lower at some point, until a European watchdog confirmed that shelling incidents had indeed taken place. That pushed Wall Street futures back into the red as risk aversion intensified. 

Commodity markets are the most nervous. Whereas the moves in the FX space and stocks were relatively small, energy and gold prices stormed higher, with gold bulldozing its way to new eight-month highs as investors took shelter in the world’s oldest safe haven. Bullion seems to have reclaimed its status as the ultimate geopolitical hedge, outshining both government bonds and the Japanese yen in this unstable environment. 

What’s next?

Markets will remain hostage to incoming headlines until there is some clarity on the situation. Tensions are clearly at a boiling point and anything can happen. 

That said, it’s difficult to see what Putin’s endgame would be from an actual invasion. Threatening to invade has its merits in terms of keeping Ukraine under Russia’s sphere of control, but actually invading means suffering crippling economic sanctions and giving NATO a concrete excuse to position even more aggressively. 

In other words, the risk/reward for Russia from an invasion doesn’t seem very attractive here. If this turns out to be a grand exercise in political muscle flexing, the ‘Ukraine trade’ - long energy and gold, short stocks - might be gradually unwound. Of course, that point may still be far away and things could get uglier before they get better. 

Markets dial back Fed bets

Over in the economics arena, bets for aggressive Fed rate increases were dialed back a notch following the FOMC minutes. Admittedly the minutes were pretty ‘vanilla’ in the sense that they didn’t reveal anything new and it was really the absence of any discussion about a 50 basis points move in March that investors focused on. 

The catch is that this meeting took place before the latest blockbuster jobs report and the scorching hot inflation print, so the argument for tighter monetary policy has only strengthened since then. As for the dollar, defensive flows are currently overshadowing monetary policy, a dynamic that could persist until geopolitical concerns ease. 

It’s a similar story across the FX market as the Ukraine conflict remains the most important variable for both the euro and the yen, as well as the commodity-linked currencies. Central banks have taken a back seat and risk appetite is the name of the game. Expect more twists and turns before markets go back to trading economics. 

As for today, there isn’t much on the agenda. We will hear from ECB chief economist Philip Lane at 14:00 GMT before the Fed’s biggest hawk, James Bullard, steps up to the rostrum at 16:00 GMT. In Turkey, the central bank is widely expected to keep interest rates unchanged despite annual inflation running at almost 50%.

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