Markets can be absurdly quick to discount risk and recover from geopolitical spasms, particularly those in the Middle East. US stocks recovered to finish higher on Monday, bouncing back from their worst day in a month on Friday and despite weakness in Europe. The Dow rallied from a 200-pt drop to end up 68.5 pts at 28,703. The S&P 500 rose 0.35% to end on 3,246. US 10s rose back above 1.8%.

Yesterday I’d questioned how long the risk-off moves would last as, particularly as it entails fighting the Fed, but the move back into positive territory was even swifter than could be expected.

The lack of any direct response so far from Iran has becalmed markets. I would stick to the view that that the regime is afraid of major open conflict and will seek to avoid it whilst still ‘responding’ in some way. The US seems more ready for the fight but cannot be seen to be the aggressor. But this risk rebound is entirely contingent on Iran being cowed – if it does respond in a way seen to escalate the situation – that is, push the two sides closer to open conflict – then the risk play is unwound pretty sharpish again. 

Iranian foreign minister Zarif – who has been denied a visa to attend the UN Security Council in NY on Thursday, says the country’s response will not be urgent. This has been followed by comments from the Supreme Council Sec Shamkhani, who said that the ‘revenge operation’ against the US will be more than one single operation. We will wait and see, but one senses that Iran understands the US means business and needs to tread a tightrope to avoid a full-scale war.

So despite all the chest-thumping and threat of retaliation, the fading in the geopolitical risk in a relative sense has European stocks looking to open higher after a bit of a drubbing on Monday. Having closed at 7575, the FTSE is seen up north of 7600, while the Dax is seen almost 100 pts above 13,200. 

Oil is retreating amid overbought conditions and little in the way of fresh geopolitical or fundamental stimuli to drive further gains. Yesterday’s candle suggests rejection of the $64 handle for the time being and bears may take control now to fade the gap back to the rising channel we’ve been in since the start of Oct. WTI balked at the 61.8% retracement resistance at $63.70 and the failure to overcome the Apr 2019 highs is suggestive that the rally has not got the legs – although we remain in a broad uptrend, bulls have been overextended on this jump. The upside risk remains though from any geopolitical fallout in the Middle East and/or disruption to oil supplies around the Strait of Hormuz. 

Likewise, gold has pulled back from its highs to trade at $1565. The rally for gold is partly geopolitical risk but look to the real US yield curve – 10-yr TIPS are almost negative again. If we see US yields pick up over the coming days back towards 2% for the 10-yr then it could be a fairly brutal unwinding for gold. Speculative net long positioning has jumped above 305k and looks fairly extended and crowded. 

A weaker dollar is helping major peers. GBPUSD has recovered last week’s falls to find support on the 23.6% retracement at 1.3140. Look for this to hold to deliver a rally back to the 1.3250 level we saw at the very start of the year.  

EURUSD also firmer ahead of the CPI flash estimate for the Eurozone at 10am GMT. Forecast at 1.3% vs the 1% last time. The euro remains in a broad uptrend with near-term support on 1.110 and bulls eyeing fresh eyes above 1.1240 once the 23.6% retracement level is cleared at the 1.120 round number. US services ISM survey due later as well – seen at 54.5 from 53.9 last time out.