The prospect of a prolonged conflict of uncertain outcome sent stocks, bonds and almost all currencies except the dollar down. The sell off accelerated into the Friday close and continued in early Asian trading on Monday. Energy prices are spiking and dragging other commodities upward; these are the only major asset classes benefiting from the situation. Macroeconomic data around the world is starting to reflect the war's consequences - higher inflation and lower growth.
The main driver in markets, of course, remains the headlines from the war. Echoing the chaos after "Liberation Day," Trump's erratic pronouncements are having less and less impact on daily asset price fluctuations. While war developments remain fundamentally impossible to predict, this week we will get key macroeconomic data that should clarify the war's impact in the biggest economies. This includes a raft of March labour data from the US culminating in Friday's payrolls report, the ISM business survey on Wednesday, and the flash inflation report for March out of the Eurozone on Tuesday.
USD
The shale revolution, which ended the US dependence on energy imports and turned it into a net exporter, has isolated the country from the worst consequences of the energy spike. This is reflected in a general rebound of the US dollar against every major global peer. We continue to favour upside in the greenback so long as the war rages on with no clear end in sight. A crumb on comfort is that Trump does, at least, appear to be seeking a relatively quick “off-ramp” to the war. Whether he is able to orchestrate a controlled de-escalation in a manner that he can reasonably pass off as a “win” remains to be seen.
The main drag on the dollar in these times is the relative dovishness of the Federal Reserve, which seems more reluctant than its G10 peers to react to the energy price spike with hikes. Rather than bracing for higher US rates, futures markets are now merely expecting the FOMC to remain on hold for the rest of the year. This outlook will be tested by the critical labour data out this week, which is expected to be relatively unaffected by the war and could push more FOMC members towards hikes.
GBP
Sterling is beginning to feel the full impact of the war, as it fell last week against both the dollar and the euro. So far, the only significant data point we have regarding the war's impact on the UK economy is last week's PMI survey. While lower than in February, the composite index was far from disastrous, showing an economy that is still expanding, albeit at a modest pace. We also saw a surprise rebound in the manufacturing sector, although this was partly driven by stockpiling and supply disruption artificially lifting the index.
Meanwhile, the brutal sell-off in government bonds worldwide is being particularly felt in the gilt market, with the benchmark 10-year yield last week breaking to its highest level since 2008. Fears of inflation are well grounded in the UK, with the Bank of England now expecting consumer price growth to peak at around 3.5-4% later in the year due to the spike in energy costs. This will surely put pay to further interest rate cuts, although we are not convinced that it warrants aggressive policy tightening given slack in the jobs market, and the three hikes priced in during 2026 seems excessive.
EUR
The euro fell last week amid worsening war headlines, but so far it remains within the trading range that has held since early last summer. The PMI business surveys fell meaningfully but, as in the UK, remain consistent with sluggish growth, even after business executives begin to process the ramifications of the war. The manufacturing sector again appears resilient on the surface, although we argue that this robustness will be short-lived given that it appears to be a product of firms racing to build up inventory ahead of expected price increases, rather than being due to genuine demand-led expansion.
ECB communications suggest that the central bank will not hesitate to hike in response to rising inflationary pressures from the energy spike, which is probably helping the common currency off its recent lows. Yet, recent communications from Governing Council officials have not exactly given the green light to an April hike, and both the timing and extent of any policy tightening remains an open question. This week's inflation release is shaping up to be the most critical in many months, given the ECB's hawkish tilt.
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