Something is Mispriced

Some investors are in disbelief at the equity rally and the selloff in oil given how little real progress has been made. The Strait of Hormuz is still operating at roughly 10% of its pre-war capacity. The market is either looking through this or getting complacent. If negotiations deteriorate and the conflict resumes, it could be a rough day. At this point, resolution feels fully priced.

Polymarket is only assigning a 24% probability that transit normalizes by the end of April, after briefly spiking toward 50% when the ceasefire was announced.

That rises to 57% by the end of May. Even that feels inconsistent with how far equities have recovered. If the Strait is not opened by this point, supply chains will grind to a halt.

Unless the market is taking the view that regardless of what happens, governments will print their way through it. We saw a version of that in Canada yesterday. It is supportive in the near term, but nothing is free and someone ultimately pays for it.

Most investors expect oil to settle in the $80 to $90 range by year end. (BofA)

Which makes the forward curve at $75 notable, as it is incongruent with the results above.

Oil and semis are showing up as the two most crowded trades right now.

Apollo laid out the transmission channels across sectors. Airlines, building products, and chemicals are expected to take the biggest hit. Goldman highlights a similar view.

Part of the equity strength may simply be flows. Goldman estimates CTAs bought $19bn of US equities last week. Looking ahead, their models point to another $43.5bn of buying over the next week in a flat tape. That would be one of the largest flows on record.

Earnings data tends to lag, especially during an oil shock. It is rare to see valuations fall 18% while EPS expectations are inflecting higher. That relationship only holds if the shock proves temporary. (MS)

The Middle East conflict has already shifted expectations. Investors moved from pricing rate cuts to a more neutral stance, alongside higher inflation expectations.

Sentiment has rolled over as a result and is now sitting at its lowest level since last summer.