US inflation came in line with expectations for the February reading; headline inflation steadied near 2.4% y/y, core inflation near 2.5%. Yet the tame numbers couldn’t cheer investors as oil prices rose despite news that the IEA would release a record amount from its strategic reserves to keep oil prices in check as the Middle East war continues with no near-term end in sight.
This felt like a typical buy-the-rumour, sell-the-fact pricing dynamic: oil prices eased earlier this week on news that the IEA would release reserves and rebounded after the announcement that 400 million barrels would be released. The IEA announcement was at the top end of expectations; it could have given some relief, but as was the case during the release in the early days of the Ukrainian war, the news instead fuelled oil prices.
Some say that the size of the release actually increased worries that the war could last longer. Again, the math is simple: 400 million barrels would only be enough to meet the IEA’s oil demand for roughly 9-10 days. After that? The IEA system is estimated to hold around 1.2 billion barrels. It goes fast. Its head, Fatih Birol, said that only the resumption of normal trade through the Strait of Hormuz would help. Well, that’s not on the menu du jour.
Oil spiked higher again this morning, with US crude up more than 6% at the time of writing, above $94 per barrel, and Brent up 7% near $97 per barrel on news that three more vessels were struck in the Gulf yesterday.
In summary, oil will hardly return to levels that would tame inflation expectations until geopolitical tensions materially ease.
Rising oil prices are leading to a significant shift in central bank expectations. The US 2-year yield – which best captures Federal Reserve (Fed) expectations – approached 3.70% this morning, the highest since September, while the benchmark European 10-year yield spiked to more than 2.5-year highs, near 2.95%.
The US dollar is up again this morning, extending gains against most majors. But the Middle East war and rising oil prices hit majors unevenly. The so-called oil currencies – the Australian dollar and Canadian dollar – have outperformed since the war broke out almost two weeks ago, while the oil-dependent yen and the euro have been among the hardest hit.
The USDJPY is preparing to test the 160 level, which could trigger intervention from authorities, while some European Central Bank (ECB) officials warn they are not willing to repeat the mistake made during the Ukrainian energy crisis and could act sooner rather than later to prevent inflation from rising on the back of higher energy prices. But that comes with the threat of slowing demand and is not necessarily positive for the euro.
The EURUSD could retreat toward 1.1350 without compromising its longer-term bullish trend that has been building since the beginning of 2025 following Donald Trump’s return to the White House. Below that level, the single currency would return to a bearish consolidation zone, and rising oil prices – along with Europe’s energy-dependent status – would likely be to blame.
What’s certain is that a second energy crisis in five years highlights the urgent need to wean economies off imported energy. Clean energy funds are rising along with oil and gas prices these days, while gains in uranium remain relatively weak, which is surprising as European officials said this week that abandoning nuclear was a strategic mistake and that the continent is considering returning to nuclear energy. It may be the only way to gain greater energy independence as wind and solar alone cannot meet total demand.
In the traditional energy space, energy companies gained 2.5% in the US yesterday, while the S&P 500 was flat to slightly negative. Modest gains across Big Tech helped limit losses at the index level, as Oracle jumped 9% after announcing strong results and better-than-expected guidance, while telling investors that customers would pay up-front for the expensive chips themselves, preventing the company from taking on more debt. It’s an unusual move, but it helped ease concerns about leveraged investment in AI infrastructure.
Elsewhere, private credit stress has worsened this week, with multiple reports of banks writing down the value of their loans – especially to software companies facing AI-related uncertainty.
I don’t want to sound pessimistic, but there is a combination of ugly developments suggesting that market risks remain tilted to the downside. We have AI anxiety, severe disruption to oil and fertilizer trade, a significant threat to global inflation and private credit stress. And yet many Western indices are still near all-time highs.
A 10% retreat in US equity indices is plausible. Given the cyclical and energy-dependent nature of European companies, Europe could see a deeper sell-off. The Stoxx 600 lost around 8% at the worst of this week’s sell-off, and the recovery remains fragile and highly dependent on war headlines.
One place that has outperformed global peers is China. The CSI 300 index has lost less than other major indices, partly thanks to diversified energy supplies. The fact that Russia benefits from Middle East oil disruptions and that the US has softened its tone regarding purchases of Russian oil also helps.
But if the war pushes global economies into contraction, China – which exported record volumes last year – could also face difficulties. Domestically, the country continues to struggle with property and demographic challenges, meaning China could hardly do well if its main trading partners weaken.
So, there is nowhere to hide safely. War headlines and energy prices will determine how risk appetite evolves in the coming days. It is nearly impossible to give precise price forecasts. Instead, taking oil and energy prices as given, the longer they remain high, the shorter market rebounds are likely to be and the greater the risk of a notable market correction.
