While the Ukrainian conflict has sadly celebrated its first month, the negotiations are still stalling and even blew the cold last week, with both sides believing that the negotiation process is not advancing on key points. If the statement by Russia, which now says it is concentrating on the Donbass after having allegedly achieved its initial objectives, may appear to be an admission of failure (even if a disinformation operation cannot be ruled out, as has been the case during the pre-invasion military exercises), this does not bode well for an easing of the conflict. On the contrary, it could even get bogged down even more while, at the same time, Western countries are forming a common front and gradually tightening their sanctions. Only Russian oil and gas are still resisting the embargo, but we cannot change 40% of its supply in a few weeks...
However, the financial markets seem less and less erratic in the face of news (except major ones) on the conflict and are now focusing on the Fed's monetary tightening. If the last meeting of the Fed had not been clear enough on the will of the American institution, with a rather marked change in the dot plots, the various declarations during the week came to confirm that the rate hike would take place at an accelerated pace. Jerome Powell "himself" opened the ball at the annual conference of the NABE (National Association for Business Economics) by declaring that he would not hesitate to "act more aggressively" by increasing key rates by 50 bps during one or more meetings. The desire of the President of the Fed being to quickly bring monetary policy back to its neutral level (key rates estimated at 2.5%), or even into restrictive territory if necessary. These statements were followed by those of other FOMC members such as James Bullard (considered the most hawkish), who is campaigning for rates reduced to 3% this year, but also by other generally more dovish members such as Loretta Mester (President of the Cleveland Fed) or Mary Daly (President of the San Francisco Fed, “if we need to do 50, that is what we'll do”).
The probability of a 50 bps rise at the next meeting in May is now at 75% (compared to less than 50% the previous week). At the same time, the yield on US government bonds rose sharply over the week (+32 bps for the 10-year which even reached 2.5%, May 2019 level) and the curves continued to flatten. It is nevertheless always good to remember that if recessions are, in practice, preceded by an inversion of the yield curve (between the 2 years and the 10 years), the converse is not true. It should also be noted that inflation expectations have remained broadly stable and that it is real rates that have increased more.
In this context, we could have expected a strong drop in equities, particularly in technology, which was not the case, far from it. Among the explanations (since we have to try to find some): the worst-case scenarios (nuclear war, intervention by China and/or NATO) seem to differ on the war in Ukraine and the sanctions always exclude ( Germany's veto) the Russian gas embargo which would accelerate the recession in Europe. Technical factors (short redemptions, rebound after covid-type sell-off) may also explain this resilience in equities. Be careful though, in this little game, we generally tend to say that the rates are never wrong...
