Markets Remain Volatile and Gloomy, But Not Panicked
Fear, Hope, Repeat. More Volatility Ahead.
Key Takeaways
Volatility of Volatility Continues: The global markets picture shows some cautious action after the initial sharp reaction to disappointment from the White House overnight. Worries about oil prices and stagflation are partly being balanced by lingering hopes that the war will not drag too far into the year. “Volatility of volatility” is likely to remain with us for a while as markets keep guessing what lies ahead in geopolitics and economic policy.
Steepening Risk Beyond the Oil Shock: We remain convinced that central banks are unlikely to respond mechanically to an oil shock that they cannot control. The ECB has kept a tightening option on the table, but the emphasis remains on assessing the size and persistence of the shock and, above all, whether it feeds into wages, expectations, and broader price-setting. The Fed has already begun leaning the other way. However, the long end is likely to remain more anchored, resulting in some steepening to reflect the looming long-term fiscal risks, which have only been worsened by war-related spending.
Energy Shock Hits EM bonds, China Holds Firm: Higher energy prices have pushed up inflation expectations, with interest-rate forwards now pricing in higher yields for every benchmark-eligible EM economy except Brazil and Turkey. Since year-end, rising local bond yields have generated losses across nearly all EM markets, with China the main exception. China has proved relatively resilient and stable in the face of the Middle East war, much as it did during last year’s trade war. Year-to-date returns remain positive in Brazil, Colombia, China, and Malaysia, while the sell-off elsewhere in Asia has been steep.
