Overnight developments on Russia-Ukraine more consistent with imminent war than diplomatic solution. US on holiday but S&P futures well down, while Euro Stoxx 600 index falls 1.3%

The new week has begun as it ended last week, with the market fixated on developments between Russia-Ukraine. The situation has deteriorated and imminent war remains a fair bet.  The US is on holiday, but S&P futures and European equities are much weaker. US Treasury futures are slightly higher, but only suggesting a 1-2bps fall in the 10-year rate. Currency markets are less concerned about a war on European soil, and the NZD and AUD continue to recover against a soft USD backdrop.

During local trading hours there was a glimmer of hope for a diplomatic resolution to Russia-Ukraine tensions after French President Macro said that he had secured an “in-principle” agreement for a summit between Presidents Putin and Biden, which was confirmed by Washington. Hopes then faded after hours later the Kremlin said that there were no concrete plans.

Overnight the situation has deteriorated.  Moscow claimed that it had destroyed two Ukrainian military vehicles that strayed into its territory, without evidence.  A Ukrainian military official said that no such incident occurred and represents another false claim.  Furthermore, Putin is expected to decide later today whether he will officially recognise separatists in eastern Ukraine. NATO and allies have previously warned that such a move would escalate the crisis in Ukraine, and possibly trigger sanctions against Russia. Russia’s key benchmark equity index fell by over 10% and the Russian Ruble has fallen another 1½%, extending its fall over the past few days to nearly 5%.

US cash markets are closed for a holiday, but S&P futures are currently down 1%. The Euro Stoxx 600 index closed down 1.3% to a 4½ month low. US Treasury futures are better bid, and imply about 1-2bps fall in the 10-year rate. In the European rates market, safe-haven Germany outperformed, with its 10-year rate up 1 bps, and peripheral yields up 4-7bps.

Economic data continue to take a back seat to geopolitical developments. But for the record, European PMI services indices were much stronger than expected across the board, with positive surprises for France, Germany, the euro area and the UK. This reflected a strong bounce-back in activity following the worst of the Omicron outbreak as restrictions eased, with increased demand for travel, tourism and recreation services. The manufacturing sector didn’t show the same bounce-back.

On the inflation side, pent-up spending and higher energy costs stoked inflation, with survey provider Markit saying that “persistent cost pressures by rising wages and energy bills led to the sharpest rise in average prices charged for goods and services in the PMI survey’s history. The data provide further fuel to inflation hawks, who are keen to see further tightening in the UK, and the ECB to wrap up its QE programme later this year and kick off a rate-hike cycle.

Fed Governor Bowman, a voting member on FOMC, backed a March rate hike and further hikes over subsequent months, but said it was premature to decide whether to begin the rate hike cycle with a 50bps move, calling it data dependent.

In currency markets, we saw last week that the NZD and AUD weren’t adversely affected by a fall in our risk appetite index to a fresh 16-month low on geopolitical developments and overnight they have outperformed further despite the further deterioration in Russia-Ukraine developments. This could be a sign that both currencies have been oversold recently, against the backdrop of strong gains in commodity prices, and sentiment has improved for them. The NZD is up 0.3% to 0.6720, while the AUD is up 0.4% to 0.7210.

The USD is struggling to perform even against a backdrop of soft risk appetite, a further sign that we might be close to a turning point in sentiment. It shows broadly based falls, although small on the key majors, with EUR, GBP and JPY all about 0.2% stronger.

The domestic rates market continues to be influenced more by global than domestic forces. This week’s RBNZ MPS isn’t expected to surprise, with another 25bps hike seen to be baked in alongside an upward revision in the RBNZ’s projected rate track to bring it closer to market pricing. NZGB yields were 4-5bps lower across much of the curve and swaps were down 3-4bps from 5-years out, with the 2-year rate down 1bp to 2.55%. There was no market impact from the NZGB market meeting the criteria for inclusion in the WGBI later this year (yet to be officially confirmed).

On the economic calendar, Germany’s IFO business survey is released, while in the US, Markit PMIs and the Conference Board measure of consumer confidence are released.