Investability bulletin 16/03/22: Two World Order

The Ukraine War could be the catalyst for major shifts in the global economic 0rder

Photo by Gabriel Meinert

Watercooler chat: will the US dollar lose its reserve currency status? A WSJ report yesterday said Saudi Arabia was in talks with China to settle some of oil sales there in yuan…we’ve been here before – the death of the dollar has been a recurring theme in market/economic circles for about 30 years at least. Previous reports of its demise have been premature.

Certainly, though, there is a pivot happening here and China is much stronger and more integrated with global trade and accounts for a large proportion thereof. The China-Russia-India axis is emerging.  And no one has ever cut off a country the size of Russia and certainly never a country that’s as resource rich. So, there are problems for the dollar being the only game in town, but multi- or bi-polar financial systems will only work on dollar hegemony at the margins and slowly. 

But we are facing a new world order in many ways – the US-China trade war, the global pandemic and Russia’s invasion of Ukraine – are the three horsemen (shall we add Brexit for a more complete set of four?) of regime change in the world’s geopolitical and economic shape. The IMF yesterday warned that the invasion will “fundamentally alter the global economic and geopolitical order should energy trade shift, supply chains reconfigure, payment networks fragment, and countries rethink reserve currency holdings. Increased geopolitical tension further raises risks of economic fragmentation, especially for trade and technology”. 

There are signs markets are breaking down, that liquidity is evaporating. Not just one market blow-up but multiple – nickel trades being cancelled, and the market shuttered for days, Barclays ETN creation freezes (VXX, OIL), commodity melt-up and collapse, credit spreads widening, rates spiking and yield curve flattening, Russia on cusp of default and the Fed set to raise rates about 7 times this year… 

Any hope on the Ukraine front? Putin yesterday said Kyiv is not serious about finding a mutually acceptable settlement, compared with Zelensky saying Ukrainian and Russian positions are becoming more realistic…so far nothing concrete but the admission by Kyiv that it will never join Nato – couched in terms of ‘realistically never going to be allowed in’ rather than ‘giving up the ambition’, will surely help. Meanwhile Ukraine is pointing to Russia apparently dropping demands for a surrender of Ukrainian forces, which follows a bruising defeat for the Kremlin in Kharkiv. Reuters flash in the last few minutes: Russian Foreign Minister Lavrov says some formulations of agreements With Ukraine are close to being agreed. Ceasefire talks continue today. Hope.

Stock markets in Europe have rallied at the open, taking the cue from the positive session on Wall Street and an upbeat handover from Asia. Stocks in Asia bumped up on China saying it will unveil fresh policies to boost sentiment in financial markets, ranging from regulatory concerns to the property sector and measures to “ensure the capital markets are running smoothly”.. The Hang Seng rallied over 9% after tumbling by as much as that yesterday. This is tricky – does it actually deal with any of the risks like SEC delisting, US sanctions and Covid lockdowns? Certainly, some sentiment boost but what else? More in this thread from David Ingles at BBG.  

So is the bottom in? Bulls are looking at incredibly oversold conditions for the indices – NDX weekly RSI lowest since Mar 2020. Very tempting to call the bottom…but these are massive short covering rallies that are swift and brutal, taking out lazy shorts in a flash. But make no mistake this is a best market the bottom isn’t in yet. Whatever the Fed does today it’s what it did/didn’t do last year that matters. Risk of hawkish 50bps yes – the market has been casual about this since the war in Ukraine started… 

Tencent ramped 23%, +35%, Alibaba +27% on the China policy news…Scottish Mortgage catching some relief, +6% tailwind from the rally for the FTSE 100 company. Hang Seng was massively oversold coming into the China headlines overnight so due a major short covering rally. And the China lockdown – 50m people but will it last? This is not 2020. That boost for China can drive US markets, NDX in particular to further gains into the FOMC tonight before it turns lower. Vix is down big on relief rally but also look to the Barclays ETN creation halt of VXX…could be important and could then rip higher if 4,100 on SPX breaks.

Nickel reopened but was halted almost immediately with the 5% circuit breaker triggered as prices dipped at the open…problems aplenty for the LME.

Federal Reserve today will be pivotal, obviously. A hike of 25bps is a slam dunk. But markets will be looking for whether we get hawkish hike or a more dovish tone. Upside risks for USD, particularly vs the yen (euro trading as proxy for Ukraine conflict)., would be seen by way of dot plot converging on 7 hikes this year, up from 3 in December. But there is a risk that the dots are skewed to the downside if policymakers think that QT will act as a tightener, whilst the likely pace of balance sheet run-off is unclear. 

A 50bps hike today cannot be ruled out but it is more likely that Powell instead pulls the trigger on 25bps and leaves the door open for 50bps at subsequent meetings this year. Yesterday’s eco data showed how hard it’s going to be to walk this line: US PPI at 10%, NY Empire State manufacturing index cratering, back to early pandemic levels which underlines the collapse in consumer confidence. Question is whether the Fed pauses the tightening cycle later this year if it thinks more hikes risk a recession?  

Oil is higher today but still struggling to take on the 20-day line. Few reasons why oil has reversed quite so sharply: One is the market seeing chance for armistice and deal…if the oil market is a leading indicator rather than a lagging then I’d say there is a chance. See above some tentative progress. Also the EU not following US/UK to outright ban Russian fossil fuels, that has been made very clear, albeit there are nods to working to wean Germany et al off the stuff. For now though the gas is flowing to Europe in abundance

Iran deal – Russian FM Lavrov suggested US sanctions won’t be factor in Iran deal…key holdout ready to get this over the line. Good analysis of this is that Kremlin wouldn’t be signing off on Iran without peace in Ukraine. The release of British-Iranians Nazanin Zaghari-Ratcliffe and Anousheh Ashouri bodes well.

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