Traders Look to Ukraine Conflict to Map Out Market Risks From Iran

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Back then, a broad gauge of the dollar’s strength rose 6% between Feb. 24 and the end of the year. Inflation worries sent yields on two-year Treasuries soaring by more than 2.8 percentage points in the same period, while those on 10-year paper advanced by 1.9 percentage points. Gold fell and the S&P 500 posted a 19% loss for the year — its biggest decline since the 2008 financial crisis.

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While European natural gas prices have surged as much as 85% since Friday, they remain way below the peak hit in 2022. Still, the stakes for Europe could be higher this time as Russia’s energy remains out of bounds, and any incremental loss of supply could have an outsized inflationary impact. Citigroup Inc. strategists say a conflict that runs longer than two weeks could lift gas prices to €100 a megawatt-hour from around €55. 

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Yields in the UK and Europe have risen significantly this week as traders priced out rate cuts for the Bank of England and even started contemplating a rate hike by the European Central Bank. The repricing reflected concerns about inflation, and the potential for increased borrowing by governments already stretching to spend more on defense. 

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Higher oil and gas prices have dragged the euro below $1.16 to its lowest since November. Options briefly echoed the stress, with one-week sentiment on the euro touching its most bearish level since 2022. 

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Howe Chung Wan, head of fixed income Asia at Principal Asset Management that oversees over $590 billion, is also looking at 2022 for an energy disruption playbook though he expects the Iran war risks will prove more significant.

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“The impact of oil from Ukraine-Russia was mostly Europe, but this is broader,” said Howe, who has taken some profits on emerging-market bond trades. While previous skirmishes had been contained mostly to Israel and Iran, “we might see a larger shift in the geopolitical landscape in the Middle East if Gulf Cooperation Council gets involved military wise.” 

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What Bloomberg Strategists say…

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“The turn higher in risk sentiment after the New York Times report looks precarious given investors have plenty of reasons to be cautious. The report itself says that US officials are skeptical, and the outreach it mentions happened days ago. Such doubts are evident in the measured pullback in oil.”

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— Conor Cooper, Macro Squawk. Click here to read the full analysis.

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To be sure, not everyone is sounding the alarm. Deutsche Bank AG strategists note the rise in oil prices does not compare to some of history’s bigger crises, like 2022 and the Gulf War.

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For recent energy shocks to lead to sustained declines of more than 15% in the S&P 500, investors have required oil to spike by at least 50% to 100% over several months, broader macro damage and hawkish responses from central bankers, the analysts said. 

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“The scale of the current energy shock now versus 2022 is barely even comparable,” said Erik Nelson, a macro strategist at Wells Fargo. He’s telling clients to fade the kneejerk move and buy the euro, targeting a rally to above $1.19.

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Goldman Sachs Group Inc. Chairman David Solomon said it will take weeks to understand more about the situation, but that market reaction so far has been “benign.”

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Still, many traders are wary. For four-decade markets veteran Rajeev De Mello, it pays to be cautious and the Ukraine invasion remains one of the best guides available to investors. 

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“Investors are forced to reduce portfolio risk, and so reduce equities and corporate credit,” said De Mello, global macro portfolio manager at Gama Asset Management SA, who’s cut some bets this week on European, Japan and emerging market equities. “The lesson from 2022 is that investors should not immediately buy the first dip, because more is expected to come.”

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—With assistance from Masaki Kondo, Winnie Hsu and Greg Ritchie.

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