Date: Tues, 14 January 2020
Author: The Editorial Board by Financial Times
Only three days was what it took for the end-year rally in financial markets to face a reality check this year. The assassination of Chief Iranian general Qassem Soleimani in a US air strike has led to risks: oil prices have risen to $70 a barrel, gold is at its peak for seven years and equity markets have sold off globally. Haven assets, such as government bonds and the Japanese yen, have rallied.
Compared to the assessments of a couple of geopolitical analysts who cautioned retaliation and escalation which could lead to a full-scale war between Iran and the US, this shift has been modest and changes in alignment of markets is limited. Staying calm and monitoring closely how Iran responds to the death of Soleimani seems like a sensible game plan, but yet there is a certain level of complacency in the muted reaction.
At present, investors concluded that the prospects for war are not as adverse as the analysts predict. Oil prices are still below the level they hit in September despite an attack on key Saudi Arabian oil infrastructure that knocked out half its production. The high price of gold partly indicates demand for a safe asset with zero negative yields — prices progressed unwaveringly last year and marked up by 2.6 per cent in 2020.
With China as the leading buyer of Iranian oil, the closure of Strait of Hormuz – an important channel for worldwide shipping, could highly backfire on a regime grappling with an unstable economy. Folk memories of the 1970s oil shock will not be a precise forecast of the economic impact from conflicts in the Middle East. The West is less dependent on oil than before. Much of Iran’s oil has been removed from market due to sanctions. The shale revolution has made the US rely lesser on imports and its ally Saudi Arabia is able to curb the prices of crude from rising too steeply.
After markets enjoyed a very profitable 2019, some sell-off in 2020 may have been inevitable. The S&P 500, the main US equity index, rose by about 30 per cent last year — its best performance since 2013.
Investors were pricing in an easing of trade tensions between the US and China, which has now come to pass: the world’s two largest economies are set to sign a deal that will cut tariffs the following week.
Investors are also relying on central banks to protect them from any sharp sell-off. The Federal Reserve discarded attempts to “normalise” monetary policy last year and instead cut rates to maintain the economy. At the annual gathering of the American Economics Association this weekend, the New York Fed chair John Williams mentioned that low interest rates are set to remain and the central bank will extend efforts to hit its 2 per cent inflation target. Former Fed chair Ben Bernanke reported that the central bank could in effect rip rates another 3 percent from here by asset purchases.
Common assumptions however, about Donald Trump’s Middle East strategy, now lie in tatters. Since his failure to respond to the attack on Saudi oil facilities, analysts predicted that he did not intend to utilise military force. Investors thought they had the measure of the US president when it concerned the trade war. His actions last week show he remains to be one of the biggest mysteries for investors in 2020. Risk is back on.
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