The situation in Eastern Europe escalated when reports of a Russian missile entered Poland and killed two people. Poland announced they were thinking about evoking article 4 of the NATO agreement, which means they want to talk about it formally and perceive it as the first escalation point.
NATO must digest this grave situation before allies move into combat readiness. Even if the missiles that crossed the Polish border were indeed deemed Russian and not Ukrainian anti-missile interceptors, the case would fall short of triggering an escalation at this point; hence the markets are deferring to a wartime mistake believing this to be a case of misfire.
The action kicked off the safe-haven trade, driving bond yields lower and firming the US dollar up as traders moved back into wartime headline watch. US stocks closed off their highs after the report.
As headline cautious investors may be, the immediate follow-through does not suggest increasing market escalation expectations. Beyond a 1.4% rally in EUR/PLN, the cross-asset impact is not apparent. If traders were even contemplating a full-blown escalation, the landscape would be much more crater-like
While the market is not in full risk-off mode while deferring to a wartime mistake, the risk of a NATO -Russia clash is growing and real. So I suspect headline risk rather than wartime risk could be a more significant impediment over the near term.
On the Fed front, Fed Harker also chimed in that he expects the central bank will slow the pace of rate increases in coming months, which only added to the optimism in the dove's camp.
Oil
Oil is trading higher in Asia this morning. Despite demand clouds hovering over China, the softer US PPI data provided more signs of cooling inflation, hence a less hawkish Fed and improved chances of a soft landing.
But the uptick in geopolitical risk is driving oil prices more this morning. Brent and WTI climbed quickly following news of a stray Russian missile strike. With crude at the epicentre of Eastern European risk oil, traders have little choice but to graduate what-if scenarios hedging the potential risk to global oil supplies if this smouldering powder keg ignites.
Foreign Exchange
US Dollar traded bid across the G10 landscape in Tuesday's New York session. After the PPI and manufacturing numbers were printed, the USD knee-jerked lower as it seemed like the numbers were positive for risk and clearer sided with the less hawkish Fed narrative the FX markets are running with. However, the street was quick to fade the move when Russian missile headlines hit.
Traders will need to decide to fade or trade quickly, as we are unlikely to sit at these levels for a long time.