Morning Markets Brief 1-6-2020

Summary and Price Action Rundown

Global risk assets remain under pressure this morning, although price action remains orderly, amid heightened US-Iran tensions and investor fears of further escalation, while oil prices approach multi-month highs. S&P 500 futures point to a 0.6% decline at the open, which would extend Friday’s 0.7% loss from Thursday’s latest record high for the index. Overnight, equities in Asia and the EU moved lower as well, although mainland Chinese markets outperformed. Increasing demand for safe haven assets has been evident since last Thursday’s US airstrike that killed a key Iranian general in Baghdad, with Treasuries, gold, and the yen rallying over the past two sessions, although the moves thus far have remained moderate. Yields on 10-year Treasuries are back to 1.78% after rising as high as 1.95% in December, but remain well above September’s trough of 1.46%. The dollar, meanwhile, is finding little support from the rising risk aversion and is fluctuating near multi-month lows amid mixed US economic data. Oil prices are continuing higher on fears of supply disruptions, as international benchmark Brent crude approaches $70 per barrel and US benchmark WTI rises to nearly $64 (more below).

Rising US-Iran Tensions Spur Market Volatility

Investors are grappling with the risks and ramifications of last week’s US airstrike, which killed a key Iranian military leader and a number of his deputies near the Baghdad airport following a series of assaults on US personnel and installations in the country. Trump administration officials indicate that Iranian General Soleimani was arriving in Baghdad to plan an escalation of the offensive against US interests in the region, although various news reports question the strength of the intelligence. Iran’s leaders have vowed to strike back while the White House has indicated that any such retaliation will be met with further US airstrikes. Specifically, President Trump stated that 52 locations within Iran, including cultural heritage sites, would be targeted “perhaps in a disproportionate” response to any Iranian reprisals. Meanwhile, Iraq’s Parliament has voted in a non-binding resolution to expel US troops from the country, prompting President Trump to warn that US withdrawal would be conditional on Iraq’s government reimbursing the US for its billions of dollars in military expenditures to protect the country, and threatening sanctions as a countermeasure. House Democrats are said to be preparing a resolution to attempt to limit the Trump administration’s leeway to act militarily in the region absent consent from Congress. The enflamed geopolitical tensions have dented investor risk appetite, weighing on global equities over the last two sessions, although losses remain modest and many indexes, such as the S&P 500 are less than 1% below record highs. Oil prices are unsurprisingly higher amid the rising Middle East turmoil, but upside thus far has been moderate and prices remain below 12-month highs (more below).

 Oil Markets in the Spotlight

With crude prices reflecting an increasing geopolitical risk premium, analysts are debating the degree of upside risk amid complex crosscurrents in oil markets. Brent crude prices have reacted sharply to events in the Middle East over the past two sessions, rising 5.1% to hover around $70 per barrel, as investors ponder the potential for Iran to choke off shipping through the Straits of Hormuz or again attack Saudi or other regional oil production infrastructure, in a repeat of September’s surprising attacks. However, for context, this jump in prices remains shy of the surge in September after Saudi Aramco’s facilities were hit by Iranian missiles and drone, which brought prices to $72. And this was shy of 2019’s April peak of $75, which was spurred by fundamental factors, as investors anticipated recovering global demand and questioned the prospects for US shale oil production growth. With OPEC, particularly Iran’s regional rival Saudi Arabia, restraining its production over the past year in an effort to support prices, analysts note that any significant rallies in oil would likely be met with a swift supply response, thereby limiting upside potential.

          Additional Themes

Mixed Global Growth Readings – The euro is rallying 0.4% today versus the dollar and is trading at its highest level since August after the final composite reading of EU manufacturing and service purchasing managers’ indexes (PMIs) showed a moderately accelerating expansion after nearly falling into contraction in September. Specifically, the composite PMI for December registered 50.9, bettering the prior estimate of 50.6. For context, PMI readings over 50 denote expansion of activity. The EU December manufacturing PMI remained in contractionary territory at 46.3 but this represented an improvement over the preliminary reading and worse levels in September and October. The US manufacturing gauge for December, however, undershot estimates and analysts await readings of service sector activity for last month.

 US-China Trade Deal Ready for Signing – A Chinese delegation is set to arrive in Washington on January 13 for a signing ceremony of the Phase One US-China trade deal on January 15.