This month, stock markets have made a remarkable recovery, with among the fastest gains on record. According to some estimates, as much as $6T in market cap has been gained since April 1st. And this is naturally bleeding over into the currency markets. Variations in market sentiment will likely have a growing impact on forex over the next four weeks as traders navigate the Q1 earnings season.
Corporate financials have a major impact on stocks, but Forex is largely isolated from individual earnings reports. However, reporting trends and insights into the state of the economy can affect market sentiment, which in turn drives Forex pair behaviour. Going into Q1, the situation could be particularly fraught as traders try to gauge the effects of the war in Iran on the global economy and how to price in the changed outlook.
A High Bar Could Spell Trouble
The Q1 earnings season is starting off with high optimism. US companies are expected to report double-digit earnings growth for a sixth consecutive quarter, with a median estimate of 13.9%. After the strong surge in stocks over the last couple of weeks, this sets a particularly high hurdle for companies to meet. That could lead to earnings misses and a drop in risk sentiment, affecting how forex pairs perform as investors return to safe havens.
One notable difference this time around is the uneven outlook in the aftermath of the war in Iran. Some economies have been significantly more affected, which could be reflected in their corporate earnings reports. Already, several major firms in Europe have cut their outlook or expressed caution due to the potential impact of higher energy prices. This means that the Eurozone and UK economies could underperform relative to the US and China, which could affect their respective currency pairs.
Firming Up the Rate Outlook
The dollar has been weakening since the situation in the Middle East started to simmer down. There has been talk on Thursday that the ceasefire could be extended, and more ships are transiting the Strait. This has helped improve market optimism, raising gold prices, as well as the Euro and commodity currencies.
An important component is the expectation that the Fed will resume easing in a few months, while other central banks might have to hold. Further insight could be derived from corporate earnings reports, which indicate whether companies raised prices and by how much their costs increased as a result of the energy crunch. Companies will also provide guidance and insights into consumer habits, which could indicate whether issues related to the war will continue to affect the economy in the coming months.
What to Look Out For
Stock traders are back to focusing on tech after the rotation into industrials suffered due to higher energy costs. For forex traders, that means keeping an eye on market sentiment around AI. If the market feels positive about growth prospects, then the risk-on trend could accelerate through April and into May.
On the other hand, if company earnings fail to meet expectations and the company warns of higher prices ahead, this could sour risk appetite. Markets could go back to pricing in more rate hikes, which could provide some support for the dollar and weaken gold. Crude prices, however, will likely be disconnected from earnings season and will react to developments in the US-Iran negotiations.
