Markets

US equities were stronger Wednesday, S&P up 2.9% heading into the close. There was a more decisive outcome in Europe, Stoxx600 up 4.7%. US10yr yields rose 9bps to 1.93%, and oil prices fell 12.4%.

There was no obvious trigger for better sentiment, though perhaps a real ray of light related to today’s peace talks is shining through.

But the market mellower was lower energy prices. And with a lot of bad news priced in, the lack of escalation in Russia/Ukraine overnight, UniCredit quantifying Russia exposure, few signs of short-term funding stress, and the US talking with Venezuela for a potential waiver of some sanctions coalesced in a feel-good vibe.

It has been a harrowing week for investors; keep in mind these are financial-crises-type markets where everybody is trading headlines and chasing the same momentum intraday. But this should prove to be a reminder that systematic flow can move markets both ways, especially when the active investor base sits on the sidelines.

Reports about a potential EU recovery fund 2.0 had a strong market impact. France is pushing hard for a ‘Repowering EU’ package akin to the ‘Next Generation EU’ package agreed on last year, which will provide a colossal boost to EU assets.

Given the genuine risk of Russian energy flow stopping, the emergency EU summit on Thursday and Friday will hopefully result in a massive backstop for the energy shock and the anticipated broader economic downturn. There are many discussions among investors about the potential size of such a package, with EUR400 bn of additional money often mentioned. Indeed, this is quite a supporting act for the EU economy, and also the single currency.

The market will be squarely focused on the Eurozone for the next 48 hours, and we will likely see a continued pause in risk-off sentiment until EU backstop details emerge.

There was a rather big short EURUSD position liquidation when the package details were hinted at, so I’m not sure how much more US dollars juice there is to be squeezed, but energy prices should provide the key.

And while we could experience a period of FX consolidation, the dollar should stay bid if the tragedy in Ukraine extends.

OIL

Oil prices collapsed as alternative sources to Russian oil could be entering the global pipeline.

There seems to be building expectations that diplomatic efforts will prove fruitful in unlocking supply alternatives with Saudi Arabia, UAE, Iran, and Venezuela often mentioned in the discussion to cover the market shortfall.

Venezuela’s government released two political prisoners on Tuesday, days after a meeting with the US administration on discussing the lifting of oil sanctions. If sanctions are lifted, oil imports from Venezuela could substitute for Russian oil. From 2010 to 2018, the US imported 784k bbl/day of crude oil and petroleum products from Venezuela, which was higher than the 605k bbl/day imported from Russia over the past two years.

Still, with oil traders’ forward estimates ranging between $100 and $200 per barrel, there is no consensus other than that oil prices will remain elevated for an extended period as importers scramble to replace net 3 million barrels per day of Russian crude imports. So to suggest the oil market is confused would be an understatement as we are in an unprecedented situation.

Still, prices should remain high as the west cancels its reliance on Russian oil.

GOLD

Gold reversed course with much lower energy and commodity prices driving nominal yields higher and breakevens stalling and then reversing lower.

The lack of Russia Ukraine escalation ahead of peace talks in Turkey provided a ray of hope for the end of the Ukraine tragedy.

I think it’s important to keep in mind that most of the price action higher was driven by speculation on the futures market and a huge run-up on ETF gold holdings, so the market was ripe for a speedy escalator ride down, but by no means are we out of the woods just yet.

Headlines around Russia/Ukraine lean constructive on the margin, but the thought that much has changed overnight is hard for many to digest, suggesting when the long flush out has run its course, markets could come back bid.

FOREX

I think the ECB will stick to the normalization script as they don’t want to trigger a more significant selloff on the Euro by coming across as dovish.

And the EU energy relief plan could go a long way to stabilizing the Euro over the short term.

A hint of ECB verbal intervention via the rate hike channel later today could go a long way to supporting the Euro. But If the ECB is not willing to hike rates this year to defend the Euro, the trap door could spring.

From Stephen Innes Managing Partner at SPI Asset Management