Friday’s price action was a clear case of run to safety. Equities sold off while bonds, dollar, Swiss franc and Gold rallied. There were threats from Israel’s military about “significant ground operations” and a potential invasion of Gaza, which sent more than half a million Palestinians fleeing south. Meanwhile, comments from Iran that it will “not remain an observer” also fuelled further anxiety especially in the oil markets, given Iran’s significant ramp up in oil production and exports this year. This also garnered a huge bid in oil, with Brent up 5.7%.
The Asian session however saw some of these trends reversing marginally with US and its allies attempting to prevent further escalation in the Israel-Hamas conflict. Geopolitics will continue to be a key driver for markets in the week ahead as investors continue to weigh the risks of an escalation with the approach of the US authorities to prevent the conflict spreading to rest of the Middle East region.
Dollar and gold remain the safe havens of choice, given the boost to these from a variety of factors. Dollar, in addition to the geopolitical premium, also continues to enjoy US economic resilience and carry advantages. We have noted previously that dollar upside is starting to get limited, and carry advantage could also be eroded as it becomes expensive amid rising volatility and the decline in bond yields.
Meanwhile, Gold has added advantages from declining real yields with the safety bid in Treasuries driving nominal yields lower and inflation expectations remaining anchored, however a stronger dollar may lead to some compromise in Gold’s gains.
Other safe haven choices are CHF and JPY, but JPY has shown less of a safety bid in this situation due to the increased risks from the higher oil prices as an oil importer. Monetary policy is also not supportive of the CHF as inflation becomes less of a concern and recession risks take centre stage. The other way is to play the potential oil price upside, most evident in NOK and CAD, in addition to another bid in the USD. Meanwhile, EUR is at risk due to the potential of an energy shock.
Market Takeaway: Dollar remains a buy on dips amid the geopolitical uncertainty, although upside is getting limited. Gold (XAUUSD) could be the safe-haven of choice as decline in real yields also adds to the shine, while CHF and JPY are only getting a limited safety bid. EURCHF has broken below 0.95 and could target 2022 lows of 0.9410.