Ban on Russian coal sends gas price flying. FOMC minutes due

Europe is heading for a flat start, after losses in the previous session and following on from a negative close on Wall Street and weakness in Asia overnight.

•         Hawkish Fed comments hurt sentiment ahead of FOMC minutes
•         Chinese service sector activity slows by most in two years, AUD falls from 9-month high
•         The EU bans Russian coal, sending natural gas prices to 2022 high & keeps inflation in focus

The prospect of the Federal Reserve raising interest rates at a faster pace to fight inflation dragged on market sentiment overnight. US treasury yields rose to multi-year highs, and stocks headed southwards after hawkish comments from Fed Governor Leal Brainard, who said she expects a faster pace to hiking rates and a rapid balance sheet runoff. Her comments, along with encouraging US data, lifted expectations for a 50 basis point rate hike in May, which according to the CME Fed Fund, is now 75% priced in. The USD dollar trades at an almost two-year high.

Chinese economic slowdown

Data from China overnight was concerning as China’s service sector saw activity experienced its sharpest drop in two years in March amid a surge in Omicron cases and strict lockdown restrictions. 

The Caixin services PMI tumbled to 42 last month, down from 50.2 in February. The level 50 separates expansion from contraction. The data comes following manufacturing PMI which also experienced its steepest drop in two years in March. China’s Zero COVID policy comes at a high economic cost at a time when the economy is already facing severe challenges.

AUD/USD, the China proxy, is edging lower today, back below 0.76 after reaching 0.7660, a nine-month high in the previous session, following a hawkish tilt from the RBA.

Russian sanctions

The Ukraine crisis remains very much in focus, pulling shares lower in the previous session and weighing on sentiment again today. The US and the EU are due to hit Russia with further sanctions in response to accusations of atrocities committed by Russia in Ukraine. The sanctions will include a ban on new investments and a ban on Russian coal.

The EU remains divided on imposing sanctions on Russian energy and oil. Even so, the ban on Russian coal sent natural gas prices to a five-month high. Russia is Europe’s top supplier of coal. The problem with phasing out Russian shipments is that there is no clear alternative supply source leaving the EU vulnerable to shortages while driving prices in the broader energy complex higher.

Higher energy prices continue to feed into the higher inflation story. Eurozone producer prices, which measure inflation at the factory gate level, are expected to rise to 31.6% MoM in February, up from 30.6% in February. This is only likely to continue rising as energy prices have surged since the start of the Russian war.

FOMC minutes

Looking ahead to the US session, the minutes of the March FOMC meeting will be in focus and could shed more light on the speed at which the Fed is looking to hike rates and further clarity on the balance sheet reduction. Concerns that the Fed is looking to act too aggressively could send stocks and gold lower and lift the USD.