RECAPPING LAST WEEK
U.S. equity indices fell for a fourth straight week as the Iran war continued to roil energy markets
and further clouded the outlook for inflation and interest rates. The spread between Brent crude—
the global benchmark—and U.S.-based West Texas Intermediate crude widened to the largest gap
in 11 years as the risk of Brent supply disruptions increased while releases from U.S. strategic
reserves kept domestic prices relatively in check. WTI crude futures fell more than 1% to $97.95,
while Brent futures jumped to over $119 before settling near $112, their highest level since the
early months of Russia’s invasion of Ukraine. The Brent-WTI spread exceeded the high from that
period. European natural gas prices surged nearly 30% after Iran attacked multiple energy
facilities across the Middle East in response to Israel’s strike on its South Pars gas field. One
piece of positive news emerged on Thursday when several European nations along with Japan
expressed willingness to assist with safe passage for tankers through the Strait of Hormuz. The
S&P500 and Nasdaq Composite indices fell 2% and the Russell 2000 lost 1.7%. Energy and
financials were the only positive sectors last week, with the former now up more than 32% this
year. U.S. Treasury yields continued to rise sharply, and precious metals tumbled after a hot
inflation report and the Federal Reserve’s hawkish outlook. The Fed left rates unchanged while
projecting higher inflation, steady employment, and only one rate cut for this year. Chair Powell
said it was too soon to gauge the war’s effect on the economy but noted that the jump in oil prices
has fueled rising inflation expectations in recent weeks. Turning to economic reports, U.S.
producer prices rose more than expected last month at a pace of 0.7% MoM and 3.4% YoY.
Manufacturing activity was little changed in New York state while continuing to expand in the
Philadelphia region. Delayed data revealed that new home sales in January plummeted more than
17% MoM to the slowest pace since 2022. More supply and less demand forced builders to lower
prices, with the median sales price falling nearly 7% YoY to $400,500. Overseas, Australia’s central
bank raised rates for a second straight month in a tight 5-4 vote, citing material inflation risks.
The Bank of Japan left rates unchanged but kept its options open for a rate hike in April. Central
banks in Canada, Europe, and the UK also opted to keep rates steady, acknowledging the
uncertain outlook for growth and inflation. Yields on British government gilts jumped to their
highest level since 2008 as investors considered the possibility of rate hikes later this year.
Traders are pricing in two or three rates hikes for Europe this year even as most economists still
see no change. Finally, better-than-expected retail sales and industrial production figures gave
China’s economy a kick start to begin the year.
THE WEEK AHEAD
The Middle East conflict extends into a fourth week and remains the focal point for investors. Oil
prices will continue to drive sentiment. While a resolution could appear at any time, the potential
for negative impacts on the global economy grows the longer the conflict continues. The first
batch of economic reports that could reflect the effects of rising energy prices will be the global
flash PMI surveys on Tuesday. The reports will be scrutinized for signs of higher prices and any
supply chain issues. In the U.S., the rest of the economic calendar is sparse, with Friday’s revised
consumer sentiment and inflation expectations likely to garner the most interest. Last week’ spike
in the 10-year Treasury yield to nearly 4.4% has sounded some alarm bells, and the U.S. dollar
could resume its upward trend in the wake of the FOMC meeting. At the December meeting, six of
19 Fed officials were projecting no rate cuts for 2026—that number has now increased to seven.
On the international side, consumer inflation updates from Japan, Australia, and the UK are on
the docket. While these will not yet incorporate data from this month, they should provide a better
picture of inflation trends leading up to the Middle East conflict
(Schwab)
