FX Market View #38 Markets dominated by Political tensions in Europe

Geo-political tensions drove the markets this past week with the US sending bold statements of a pending war in Europe. Whether or not the likelihood of an all-out invasion of the Ukraine by Russia materialises, the impact this had on the financial markets was swift. When Russia invaded Georgia nearly fifteen years ago or annexed Crimea in 2014, the market reaction did not unfold as dramatically as that in recent days. The case could be argued that the tensions merely amplified the strains already exhibited in the markets. For example, fears of potential disruptions in the energy markets drove already rising prices to multi-year highs in some cases. A similar picture was seen in soft commodities, with grain prices rallying on the fear of steady supply sources being fractured.
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In the previous weeks, market themes were centred on pricing in future central bank rate hikes. The risk of inflation was driving pricing patterns, as the markets looked uneasy with fears of increased rates stifling economic growth. As we headed into the weekend, attention turned towards the need to de-escalate the military build-up on the Russian Ukrainian boarder. The markets quickly responded quickly by selling equities and buying the US Dollar, and this pattern continued to the start of this week. Until recently the Euro was on the rise against the Dollar, gaining consecutively over six trading days. This trend unfolded with the common currency reversing to mid-January levels against the greenback, where it can likely remain in a fairly narrow range.
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The markets have begun to show signs of a relief rally; however this outcome was in reaction to Russia withdrawing some troops from the Ukrainian boarder back to their bases. This movement of their military forces was viewed positively by the Western governments, and consequently the markets reacted with an equity rally. Conversely, the Dollar, gold and oil were sold off as risk returned. Eastern European currencies were the primary gainers which led the rally against the Dollar, pushing the greenback lower against the broader market. As expected, other safe-haven currencies like the Swiss Franc and Japanese Yen also traded lower without exposing risks of a sell-off. Near term it appears that the currency markets will continue to favour the emerging crosses.