Can the oil price remain elevated for the long term, and will payrolls give the markets something to cheer about?

Risk sentiment continues to drain from financial markets as the geopolitical environment deteriorates and tensions continue to rise between the US and Iran. At the start of the first full week of 2020 European stocks are falling and Brent crude oil is more than 2% higher, rising above $70 per barrel for the first time since May 2019. 

Why the oil price may not rise significantly from here  

The new year wasn’t meant to start like this, the analyst reports at the end of 2019 told us that global stock markets were going to have a good first half of the year, the global economy would bounce back and the price of oil would be under threat due to the shift away from carbon. However, the death of the Iranian general Qasem Soleimani by US forces has soured market optimism for 2020, and instead led to fear and risk aversion. Tensions continued to escalate over the weekend, with a war of words between the two sides. Added to this, Saudi oil fields were hit by missiles at the end of last week, which the US have blamed on Iran, they also warned that further strikes on Saudi oil facilities are likely. If Iran retaliates, either with further strikes on Saudi Arabia’s oil supply, or blocking the straits of Hormuz, where 20% of the world’s oil supply is transported, then oil prices could rise towards $75 per barrel. However, we would need to see actual supply disruption for the price of oil rise significantly from here, and Brent crude may struggle to extend gains above $70 per barrel unless Iran takes action in the next few days. 

Gold glitters in shadow of geopolitical concerns 

The market is in reactionary mode, however, if the war of words heats up but there is no significant action from the Iranian side then we believe that financial markets will calm down and start to recoup some of the early 2020 losses. Alternatively, if Iran strikes again – either at the US or Saudi Arabia – then expect a significant increase in volatility and risky assets could extend recent losses. Investors’ are not taking any chances, the price of gold has surged nearly $90 since the assassination of Soleimani, and is trading above $1,575, the highest level since March 2013. This could be a good quarter for gold, safe haven demand may keep prices elevated, while geopolitical tensions may keep global central banks in loosening mode, which is also positive for the price of the yellow metal and $1,600 could be on the cards. 

The FX market reacts to US/Iran tensions 

The FX market has also been impacted by the elevation in the US/Iran conflict. The yen has surged, along with the swiss franc, and the dollar, which had been under pressure last week, has bounced back. USD/JPY is one to watch while the geopolitical tensions remain elevated, it is currently testing the 108.00 handle, and has fallen 140 points in recent days. If it continues to fall then 106.90, the low from early October comes into view, ahead of the 2019 lows at 105.40. While the dollar is falling against the yen and the Swissie, we need to remember that the dollar is also a safe haven currency, albeit behind the yen and the Swissie, and it is clawing back last week’s losses vs. the euro and the pound. GBP/USD is struggling to maintain upward momentum so far this year, it has fallen from $1.3260 to $1.3060, however it has found some support ahead of $1.3050 and is back above $1.31 early on Monday. The euro jumped by 25 pips at the start of the week on the back of better than expected PMI reports for December, the PMI composite for December rose to 50.9 from 50.6 in November, with the service sector remaining strong at 52.8. The European PMI figures were given a boost by a pick-up in German manufacturing data at the end of last year, which is fuelling some hope that global trade data could start to improve, as long as the Iran/US conflict does not lead to long term elevated oil prices. After the stronger than expected European data there is hope that the service sector PMI for the UK could also beat expectations. If this is the case, then we may see an extension of the GBP/USD recovery rally, with $1.3150 the next key resistance level to watch. 

What to expect this week 

 Overall, sentiment remains dominated by the geopolitical issues, not even news that the US/China phase 1 trade deal will be officially signed on January 15thhas been able to placate global stock indices.  The Dax is the leading decliner in Europe, which suggests that traders are no longer worried about US and China trade concerns and are instead focussed on a battle between Iran and the US and the impact on oil prices, which could also affect global trade. We will have to wait and see if the war of words escalates to see if stocks can start the year as analysts had expected, with a gentle upward incline. For now, the 2019 forecasts don’t look like they are worth the paper that they were printed on. 

 Ahead today, the UK will start three days of debating the Prime Minister’s Brexit bill, but with the strong Tory majority in Parliament, this bill is likely to pass, and the UK is likely to leave the EU at the end of this month. US non-farm payrolls are also worth watching at the end of this week, however, if geopolitics continue to dominate then we don’t believe that economic data will have much impact on market sentiment in the short term. For now, stocks may struggle, while oil and gold remain in favour.