Risk sentiment improves considerably, with markets eyeing potential release of strategic oil reserves. US equities weaker, US treasury yields steadily fall overnight

Risk sentiment has improved considerably overnight, with market attention on the potential release of strategic oil reserves to relieve pressure on prices.  Brent crude has plunged to just below $100 from yesterday’s surge.  US equities show a modest fall, following the earlier plunge in futures and US treasury yields have fallen.  The NZD and AUD have recovered yesterday’s losses and now show modest gains from last week’s close.

Following developments in the Middle East over the weekend, which saw oil producers cut production, attacks on energy infrastructure, and a sobering warning about the prospect of oil production and prices from Qatari’s energy minister, Asian markets opened the new week in a mode of panic. Brent and WTI crude prices showed their largest ever daily increases, surging to just under USD120 per barrel before meeting some resistance. Equity markets plunged and global rates surged.

Sentiment turned an hour or so after the NZ market close after speculation that G7 finance ministers would discuss a possible joint release of petroleum from reserves, coordinated by the IEA, in an emergency meeting.  Earlier this morning, media reported that the group was ready to take steps needed to support global energy supply, including releasing strategic oil reserves.  French minister said the group was “not there yet” in terms of a release.  In conjunction with the IEA, the group “would monitor the situation closely”. Media reports note action will likely be agreed on Tuesday.

Analysts note that there would be a time-lag for logistics to kick in before any release from strategic stockpiles.  Reserves have been previously tapped in other oil crises, but the current situation is different given the sheer size of the current loss of market supply, estimated up to 20m barrels per day.

Yesterday, Iran named Mojtaba Khamenei as supreme leader, replacing his father, a sign that the country would continue with a hardline approach.  Overnight, military strikes have continued across the region, including Iran firing another ballistic missile toward Turkey, in an attempt to draw other countries into the conflict, helping to pressure the US and Israel to backdown. The Strait of Hormuz remains effectively closed, while attacks on energy infrastructure in the Middle East have forced further output cuts as storage fills up.

The intent of governments to release strategic oil supplies has driven WTI crude down to USD95 and Brent crude down to USD99, still well up from the weekend close but obviously well down from the earlier panic levels.  CNBC reported that the US stance is that a joint release of 300m-400m barrels is appropriate.  Doing the maths, this would alleviate pressure on oil supply for roughly a few weeks.

The US S&P500 is down 0.6% in afternoon trading, almost reaching positive territory at one stage, a significant turnaround considering S&P futures were down over 2.2% at their low yesterday.  The Euro Stoxx 600 index closed down 0.6%, after opening down 2½%.  Asia Pacific markets, pre-dating the turnaround in sentiment, were much weaker, with Japan’s Nikkei down 5.2% and Australian and NZ markets both down over 3%.

For bond markets, the fear of inflation continues to exceed the fear of growth.  The US 10-year rate peaked at 4.21% yesterday afternoon, and the rate has steadily declined since and trades this morning at 4.13%, down 7bps from the NZ close and barely lower from the weekend close.

The turnaround in risk sentiment sees the NZD and AUD as the best performing major currencies since the weekend close.  The NZD has traded almost as high as 0.5930 this morning, after having fallen below 0.5850 yesterday afternoon. Squaring of short positions as traders have other priorities has supported NZD relative performance. The AUD has recovered to 0.7040 and NZD/AUD is flat around 0.84.  The NZD’s outperformance sees it modestly higher on the other key crosses.

The euro continues to underperform and is languishing below 1.16, given the euro area’s exposure to higher oil and gas prices.  While European gas futures closed around EUR56, well down from their opening level just under EUR70, natural gas prices are still up over 75% since the conflict broke out, representing a significant terms of trade shock to the region.  NZD/EUR has pushed above 0.51.

The domestic rates market was in capitulation mode yesterday, as offshore fast-money accounts closed their received NZ swap positions.  In a one-sided market, swap rates grinded higher throughout the session.  Swap rates surged 19-21bps across the curve, seeing the 2-year rate close at 3.30%, the 5-year rate at 3.89% and the 10-year rate at 4.30%.  Cross market performance was woeful, seeing NZ rates rising at a faster clip than elsewhere.  Moves were similar for NZGBs, with rates closing up 18-21bps across the curve.  There should be some reversal in rates today, given the overnight moves.  The Australian 10-year bond future is down 9bps in yield terms since the NZ close.

Economic data will continue to take a back seat to Middle East developments, but for the record, today sees consumer and business confidence data in Australia, China trade data and only second-tier US releases tonight.

Jason Wong is the senior Markets Strategist at BNZ Markets.