Why Wall Street can’t agree on where stocks are heading

Investors are still reeling from a roller coaster ride — attempting to price in a bewildering array of sweeping sanctions against Russian entities with all its attendant knock-on effects. There’s a growing divide on Wall Street, with some saying that the worst is over and investors should buy the dip while others are saying investors should be cautious and concerned about lingering tail risks.

Dominic Wilson of Goldman Sachs’ global markets strategy team is wary of both surging oil prices and a Federal Reserve that might not dial back its hawkishness as much as markets are currently pricing in, according to a new note.

Commodities surged again on Tuesday, led by WTI crude oil (CL=F), which surged to its highest level since May 2020. This is despite the fact that Russian energy supplies are currently exempt from sanctions — with little talk about that changing.

Crude oil markets also completely discounted news that the International Energy Agency (IEA) would lead a coordinated global release of 60 million barrels of crude. The threat of dumping all that oil into the market didn’t sway prices, which only continued their skyward trajectory.

In response to the oil price action following the IEA news and the upcoming oil release Tuesday, Bob Iaccino, Path Trading Partners co-founder and chief market strategist, told Yahoo Finance Live, that “traders, and especially hedgers, tend to think wow — they’re doing something they don’t often do. In the case of the IEA, it’s only been done three other times in their history. Traders will start to think — well what else do they know? Is this going to get a lot worse than we think? And they’ll tend to get out of short positions and tend to even put on long positions — and that’s what I think we saw here.”

Wilson wrote that market participants are still underestimating the tightness in global oil supplies. He argues that the extra price investors are paying now for futures contracts over the expected spot oil prices when the futures contracts mature — the so-called risk premium — is still too low and should probably be higher.

Kolanovic also believes that energy prices are contained and that the worst may be over. “Indirect risks are more substantial, given effects of higher commodity prices on inflation, growth, and consumers; however, one silver lining is that the crisis forced a dovish reassessment of the Fed by the market,” he wrote.

The Fed’s next move

Meanwhile, investors are torn about the Fed’s next monetary policy decision at the Federal Open Market Committee meeting on March 16 and 17. At issue is how much the Fed may increase its short-term benchmark Federal funds rate. One month ago, prior to the escalation of tensions, markets were pricing in a very hawkish increase of 50 basis points — considered aggressive as the Fed has not moved that much since May 2000.

After the last jaw-dropping inflation print, Fed funds futures actually priced in — if only briefly — a 75-basis point move at the March meeting. Currently, investors believe there’s a nearly 100% chance that the Fed will only increase 25 basis points, and a minuscule chance that they’ll do nothing.

In response, yields on U.S. Treasury securities (^FVX, ^TNX, ^TYX), which were surging higher before the Ukraine crisis, are now crashing. Wilson believes investors are getting this move wrong and are overestimating the Fed’s concern over the crisis.

“[W]e think the market is starting to overestimate the impact that the conflict will have on the Fed trajectory and so think that front-end rates are ultimately likely to reverse this recent rally,” wrote Wilson.

Indeed, global skirmishes like this don’t tend to disrupt financial markets for long. However, the Fed must respond to one of its key mandates of stable prices. In the current crisis, soaring oil prices are feeding that very inflation — only deepening the Fed’s conundrum.

Meanwhile, JPMorgan’s Marko Kolanovic, taking a different view from Wilson, argues that the Fed will not be aggressive because of the Russia-Ukraine conflict. While the team believes this will be bullish for U.S. equities, they don’t believe that’s the case for European stocks, which have more exposure to any escalation in the conflict.

And when it comes to Russian equities, JPMorgan’s chief emerging markets strategist Jahangir Aziz said Russia is simply “uninvestable.” On Monday, the Russian government shut down the Moscow Exchange after it had shed nearly 40% in two weeks. In the U.S., American Depositary Receipts of most Russian companies have been halted. Russian ETFs, such as the iShares MSCI Russia ETF (ERUS), still trade on U.S. exchanges. But without underlying assets to track, ETF managers like BlackRock are halting the creation of new ETF units.

Jared Blikre is an anchor and reporter focused on the markets on Yahoo Finance Live. Follow him @SPYJared.

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Source: https://finance.yahoo.com/news/why-wall-street-cant-agree-on-where-stocks-are-heading-204656644.html