UBS On-Air: Paul Donovan Daily Audio 'The bias to optimism reasserts itself'
The ongoing progress in US-Iran talks has reinvigorated market optimism, reflected in a dip in oil prices as indicated by UBS's commentary. This sentiment is likely to shape the risk appetite in FX markets, particularly for energy-sensitive currencies. The desk highlights the implications of a potential tariff on shipping through the Strait of Hormuz, which, while politically significant, is deemed economically negligible. Per the full note source, traders should prepare for continued fluctuations depending on further developments in these geopolitical discussions.
What the desk is arguing
The recent advancements in US-Iran negotiations have bolstered market sentiment, underscoring an inherent bias towards optimism among investors. UBS's Paul Donovan notes that while a comprehensive deal is still distant, the momentum in talks is enough to influence prices, particularly in oil markets.
A tariff on oil shipping through the Strait of Hormuz has been mentioned, but at $2 million per tanker, its economic impact is minimal on a global scale. The desk draws attention to this minor disruption in the context of broader market dynamics, as exclusion of certain vessels is unlikely to significantly affect global supply chains.
Where it sits in our coverage
Currently, the desk's outlook aligns with a conservative consensus target of 1.075 for our tracked currencies, with a range stretching from 1.04 to 1.12. Notably, jpmorgan has a target of 1.10 for March 2026, which fits within this broad band, while bofa holds a more cautious view with a target of 1.04.
This positioning reflects an overall lukewarm sentiment, marking a divergence with jpmorgan's more optimistic stance, suggesting potential variance in performance as market dynamics evolve.
How other firms see it
In terms of positioning, firms like jpmorgan and others seem aligned in their outlook for a moderately bullish trend in energy-related currencies given the recent geopolitical developments. Conversely, bofa presents a more cautious approach reflective of broader economic uncertainties.
With our focus on energy markets, upcoming tensions in the USD/CAD and potential shifts from the European Central Bank can significantly intersect with this narrative. Thus, monitoring these currency pairs will be crucial, particularly in the context of evolving energy policies and inflation indicators.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Progress in US-Iran talks contributes to positive market sentiment.
- 02A minor tariff on Hormuz shipping is unlikely to severely impact global oil prices.
- 03Traders should remain vigilant about energy-sensitive currency movements.
- 04Central bank rhetoric could induce volatility in inflation-driven asset classes.
Market implications
Watch for fluctuations in oil prices to inform trading strategies in energy-sensitive currencies. A key level to observe is $2 million for tanker tariffs, which may influence market dynamics if further escalations arise in trade discussions.
Risks to this view
A breakdown in US-Iran negotiations or a sudden geopolitical escalation could drastically alter market sentiment and reverse the current bullish outlook. Furthermore, miscommunication from the ECB regarding inflation forecasts could introduce volatility.
Good morning, this is Paul Donovan, Chief Economist at UBS Global Wealth Management. It's seven o'clock in the morning, London time, on Monday the 25th of May. Iran has confirmed that talks with the United States are making progress, and that has lent credibility to some of US President Trump's weekend social media posts.
Oil prices have fallen as a result. Any reopening of the Strait of Hormuz would not lead to pre-war oil prices, which is something consumers will notice. However, the increasingly likelihood that Iran is able to charge a tariff on ships passing through Hormuz is not likely to be too disruptive to global markets.
While some countries' ships may be excluded from Hormuz, this is a global market overall and would balance. Excluding ships is a political gesture, but economically meaningless. If oil from specified Gulf states was to be blockaded, that would be more significant.
The tariff that has been talked of, at $2 million per tanker, is just a rounding error in terms of the global oil price, and would not have a meaningful economic impact outside of Iran. The boost to Iranian tax revenues would make a difference within Iran. European Central Bank President Lagarde was possibly paving the way for an upcoming policy error by telling the media that inflation forecasts were likely to be revised higher at the next Governing Council meeting.
This is not, of itself, a surprise. Given the costs of the war are hitting European consumers, though less than US consumers, it would be very surprising if there were not a higher number now. The current forecasts were made in the very early stages of the war.
Lagarde refused to be drawn on whether this would automatically mean a policy error on higher rates, but the fact that a rather technical adjustment is being highlighted in this way might be taken as a hint. Trump's economic adviser, Hassett, has said that as energy prices are the main driver of inflation, ending the war might give the Federal Reserve room to cut rates. This is actually a pretty reasonable economic assessment, but it does depend on there being no evidence of second-round effects.
A wage price spiral seems very unlikely. In the US, real wages are going nowhere, which is why consumers are using lower savings rates and now tax rebates to pay for the higher prices that have resulted from tariffs and then the war. However, profit-led inflation, where margin expansion using oil prices as a convenient excuse takes place, is still a possible threat, though it's not that likely.
The real challenge is whether somebody with Fed Chair Walsh's reputation has sufficient authority to get a rate cut through the FOMC. If Walsh lacks credibility with FOMC members, then a rate cut would need very clear data signals to bring it about. With large numbers of countries on holiday today, the data calendar is pretty barren.
Japanese department store sales data for April showed some strength. This is not especially noteworthy beyond reaffirming the general advanced economy trend. As the oil prices increased, non-oil spending has proved to be resilient.
This resilience owes much to the unusually strong position of household balance sheets before the war began. That's all for today. Have a good day.
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