The biggest story in the financial markets and the media in general is Syria. Both the U.S. and U.K. are moving closer to calling for military action in Syria but the latest conversation suggest that the Obama Administration prefers a limited strike on military units that carried out the chemical attacks that would “deter and degrade” the government’s ability to use chemical warfare again. The fear of backlash in the Middle East means that most likely, the strikes won’t be aimed at ousting President Assad, which is key for the financial markets because a swift limited attack could pave the way for a relief rally in currencies and equities. Unfortunately the duration and scope of a military response in Syria is not the only risk that investors should be worried about. If there is a strong response from the country’s allies (namely Russia and Iran), Syria will remain a driving force for the financial market.
While the sell-off in the currency market gained traction over the past 24 hours, equities are stabilizing with European indices moving only slightly lower and U.S. stocks opening higher. In the FX market, there continues to be a flight to quality with the USD strengthening against all of the major currencies and gold rising to fresh 3-month highs. The biggest beneficiary of the uncertainty in Syria continues to be oil, which climbed to a 2 year high. This helped the Canadian dollar avoid losses like the AUD and NZD.
Emerging market currencies such as the Indian Rupee, Turkish Lira and Indonesia Rupiah have been hit the hardest by the uncertainty in Syria as it adds to existing concerns about domestic policies. Traders were cutting back risky emerging positions in EM currencies before the chemical attack and the liquidation only gained momentum since then. G10 currencies on the other hand have seen modest losses in comparison. The biggest decline was in the AUD and NZD, both of which have only fallen 1.3%. The euro and British pound are virtually unchanged against the dollar from the start of the week although the sell-off in the euro appears to be gaining traction today. These currencies are vulnerable to additional losses if the situation in Syria escalates but their losses won’t be as steep as emerging market currencies.
Meanwhile the British pound rallied on the back of optimism from Bank of England Governor Carney. While the new head of the central bank said forward guidance doesn’t prevent the BoE from adding stimulus and they could ease if market rates hurt the recovery, his comment that the recovery is broad based and set to continue was enough to rally the pound. Carney also said that UK growth prospects are solid, not stellar – a comment that was good enough for sterling bulls who were looking for any acknowledgement of a firmer outlook by the BoE.