Euro Outlook Bearish on Russia-Ukraine Tensions. Crude Oil, Swiss Franc to Rise?

[MongiIG]

EURO, SWISS FRANC, EUR/CHF OUTLOOK, RUSSIA-UKRAINE TENSIONS - TALKING POINTS

• The Euro is vulnerable to a rapid selloff if Russia-Ukraine tensions continue to escalate
• Swiss Franc could rise; political risks may put premium on Europe’s anti-risk currency
• Nord Stream 2 pipeline is a key political lever. Could sanctions push oil prices higher?

The Euro could suffer if tensions between Russia and the Ukraine boil over and destabilize European politics and economic dynamics. Local equity markets would likely undergo a selling bout, though certain stocks could get a bump. The anti-risk Swiss Franc, on the other hand, may rise amid the instability, as it frequently has during periods of European political turbulence.

Natural gas and crude oil prices may ride the wave of politically-induced supply disruptions if economic sanctions are put in place against Russia. This would buttress what has been an increasingly-bullish outlook for these key inputs amid revived global demand. What then are the political variables that could support or derail this outlook for the Euro, Swiss Franc, and crude oil?

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PLAYING WITH FIRE: NORD STREAM 2

The Nord Stream 2 pipeline continues to be a political and economic wedge between the US and its European allies. For Washington, there is concern that it could give Moscow undue leverage over Germany’s economy (the so-called “steam engine of Europe'') and that of the region as a whole. As a result, it could make European foreign policy towards Russia softer and weaken US endeavors.

Source: BBC News

On the other hand, Germany and Europe as a whole continue to wrestle with soaring energy prices. If approved, the Nord Stream 2 pipeline would supply 55 billion cubic meters of gas to Germany each year and drive down prices amid an otherwise broadly inflationary trend. These competing priorities form the basis for tensions between Russia, the US, and Europe.

Poland and the Ukraine are also expressing unease about missing out on collecting transit fees from allowing Russian gas to flow through their territories. According to the Congressional Research Service, prior to the completion of Nord Stream 1, “about 80% of Russia’s natural gas exports to Europe transited Ukraine. In 2019, about 45% of these exports transited Ukraine”.

While the pipeline is complete, operational certification has not yet been issued. Having said that, analysts expect regulators to approve a license between March and July of 2022. Washington has openly said it could leverage sanctions against Russia if Moscow sends troops over Ukraine’s border, and some of them target Nord Stream 2:

“Section 232 of the Countering Russian Influence in Europe and Eurasia Act of 2017 (CRIEEA, P.L. 115-44, Title II) authorizes sanctions on those who invest at least $1 million, or $5 million over 12 months, or provide goods, services, or support valued at the same amount for the construction of Russian energy export pipelines (22 U.S.C. §9526)” - CRS.

US sanctions could trigger counter-measures by Russia in the form of restricted supply of gas and oil, potentially causing a spike in energy prices and further fanning the flames of inflation. According to Kevin Book, the managing director at ClearView Energy Partners, Russia’s vast resources mean it can “dig a bigger hole in supply than the West can plug”.

EURO OUTLOOK SHAKY ON UKRAINE TENSION

As for the Euro, a conflict between the US and Russia over Ukraine with Europe involved could cause selling pressure to swell. A military confrontation of any kind between the two would itself dampen risk appetite globally, but the conflict’s regional proximity could exacerbate a selloff in local assets, such as the Euro.

 

RUSSIA POLITICAL RISK SCORE HIGHEST ON RECORD

From the data publisher: “Geoquant fuses political science with computer science to generate systematic and objective indicators of political risk across the G20. The Political Risk scores draw on hundreds of structural measures of country risk, as well as higher frequency, larger-scale data derived from reputable formal and social media. The measures consist of 250+ high-quality country risk databases produced by multilateral institutions, NGOs, think tanks, government agencies, polling firms/organizations, and the social science literature. A higher score indicates greater political risk.”

Conversely, the Swiss Franc may then enjoy a rise from risk-averse traders amid the political peril. German Bunds would almost certainly rise too at the expense of domestic equity markets. EUR/CHF may thus experience dual strain as a result of selling pressure on the Euro pushing it down and buying power thrusting the Swiss Franc higher.

EUR/CHF TECHNICAL ANALYSIS

EUR/CHF has been trending lower since March 2021, with a brief period of respite between August and September along the way. After touching a seven-year lowrecently, the pair quickly bounced back and is now showing early signs of bottoming.

CHART SHOWING EUR/CHF - DAILY CHART

Source: TradingView

The first critical point of resistance appears to be the swing high at 1.0511 (gold-dotted line) where the pair sharply retreated in mid-January. Retesting this ceiling without follow-through could represent a confluence of bearish signals, both fundamentally and technically. This may then keep EUR/CHF suppressed in the short to medium term.

Written by Dimitri Zabelin for DailyFX. 2nd Feb 2022