Europe prepares for Russian invasion of Ukraine. Risk appetite takes a hit. Big slump in global equities. Modest rally in global bonds

After last week’s notable selloff in global equity markets, selling pressure has intensified overnight, with Russia/Ukraine on the brink of war adding to investor concerns, alongside the expectations of a slower global economy and tighter global monetary policy. As we go to print, US equities are down in the order of 3-3½%, following a near-4% slump in European equities. Bond markets show a fairly muted rally under the circumstances, while safe haven currencies have outperformed. The AUD is off more than 1% while the NZD has printed a fresh 14-month low.

Following Russia’s military build-up around Ukraine over recent months, NATO looked to be preparing for war and said allies were putting military forces on standby and sending ships and jet fighters to its northeastern and southeastern member countries. This follows Putin’s demands NATO pull its forces back. UK intelligence suggested that Russia was planning a “lightening war” that could take out Ukraine’s capital Kyiv. Overnight, EU foreign ministers renewed their warning that they would impose “massive consequences” against Russia if it invades Ukraine.

Russia’s ruble has been the worst performing of EM currencies for the day, falling about 2½%, even as its central bank stopped foreign currency purchases to ease the pressure on the currency. The threat of war has spilled over into developed markets, seeing a big fall in risk appetite, driving investors into safe havens. After falling over 5½% last week, the biggest drop since March 2020 and more a reflection of expectations for global monetary policy, the S&P500 has fallen about 3% while the Nasdaq index is down about 3½%. Earlier, the Euro Stoxx 600 index closed down 3.8%.

The S&P500 is now down over 11% from its intra-day record set in the first week of 2022, while the Nasdaq index is down over 18% from its November high.

Considering the big hit to equities, the rally in global bond markets has been fairly tepid, with European 10 year rates down no more than 4bps, while the US 10-year rate is down only 4bps to 1.72%. Likely preventing a stronger rally is some nerves ahead of the next FOMC meeting Thursday morning NZ time, where the Fed is still expected to signal a March rate hike in the face of surging inflationary pressures and an extraordinarily tight labour market. The threat of war has done little to change monetary policy expectations, with the Fed Funds curve through 2022 little changed to start the week, with four hikes still well priced for this year.

The threat of war has seen European gas prices surge, with the Dutch benchmark up 16% and the UK benchmark up 19%, albeit both are still well below (in the order of 50%) the peaks seen in December. Oil prices are down in the order of 2-2½%.

Safe haven currencies have outperformed, with the USD the best performing of the majors, seeing the BBDXY USD index up 0.4%, its mini-selloff mid-January now looking like a distant memory. JPY has also been well supported, with USD/JPY up less than 0.1% since last week’s close to 113.70, while EUR hasn’t fared too badly either, down slightly to 1.1330.

At the other end of the leaderboard, the AUD has been the worst performing of the key majors we closely follow, down around 1% for the week so far to move just below 0.71, before recovering a little, still more than a cent above its early December low just below 0.70. The NZD has fallen 0.6% and has printed a fresh 14-month low of 0.6661. NZD/AUD briefly recovered the 0.94 handle early this morning but is generally lower on the crosses, going sub-0.59 against the euro and sub 76 against the yen. GBP hasn’t performed very well either, and NZD/GBP is flat about 0.4960.

The threat of war has overshadowed the global PMI data that were released. The Markit PMIs for the US (less closely followed than the ISM indices) both notably fell, but more so for the services index which dived nearly 7pts to an 18-month low of 50.8. Labour shortages, employee absences and the Omicron wave reportedly weighed on growth. On a more positive note, demand looked less affected and the rate of supply chain deterioration eased.

The euro-area PMIs were weaker than expected for services, but stronger for manufacturing. Encouragingly, there were signs of the supply crunch easing that helped factories boost production, while manufacturing cost pressures also eased. UK PMIs were on the softer side of expectations.

NZ’s rates market was quiet yesterday, with Wellington on holiday. Swap rates lifted by 2bps across most of the curve, while there were no NZFMA marks for the bond market (hence the no-change figures in the tables).

There was no market reaction to Sunday’s announcement that the country would move into the highest “red” setting of the traffic light system for COVID, after confirmation that Omicron has begun to spread in the community. This is a fairly light-handed setting that mainly affects large gatherings and the small percentage of unvaccinated folk and will not do much to prevent a surge in cases over coming weeks, consistent with a “let-it-rip” strategy. The sooner NZ gets over this wave, the sooner things can return to normal but in the meantime we can expect more cautious consumer behaviour and some supply-side disruptions to hit the economy, as seen in other countries. These short-term economic effects have little implication for NZ’s monetary policy outlook.

In the day ahead, NZ’s performance of services index is released, followed by Australian CPI data this afternoon. The market expects another 0.7% q/q trimmed mean outturn. If that’s the case then annualised core inflation would have been running at 2.8% during 2H21, near the top of the RBA’s 2-3 target range – certainly suggesting that QE has outstayed its welcome and, with inflation pressures expected to lift further and the cash rate well below neutral, a beginning to the tightening cycle could easily be justified. One just needs the RBA to accept that its forecasts have been wrong and a change in policy guidance is now appropriate.

The key releases tonight are Germany’s IFO business survey and US consumer confidence. Key releases over the rest of the week include NZ CPI, the advanced estimate of US Q4 GDP, the US employment cost index and policy updates from the Fed and Bank of Canada. So, alongside watching events on the Ukraine border there are plenty of risk events to affect the market.