Euro, Stoxx 600 Gain as Ukrainian Military Success Boosts European Market Optimism

Key Points

• A surprise offensive in Ukraine’s northeastern Kharkiv region has seen Ukrainian forces retake substantial territory from occupying Russian forces.
• European markets have responded positively to the idea the conflict could soon end, with the euro and equities gaining.
• But analysts warn that Ukraine’s recent success doesn’t necessarily translate into an improved European economic outlook.

Ukraine Retakes Significant Territory in Surprise Offensive

In a surprise counteroffensive that kicked into overdrive over the weekend, Ukraine’s military has made sizeable territorial gains in the country’s northeastern Kharkiv region. In the last few weeks, Ukraine’s military had successfully tricked occupying Russian forces into believing that its main counter-offensive was to be launched in the country’s southern Kherson oblast, thus catching them off guard in Kharkiv.

In the last five days, Ukrainian forces have recaptured around 3,000km squared in territory, more than Russia was able to capture in the last four months, a development that some military analysts are referring to as a potential turning point in the war. Others have cautioned that while Ukraine’s latest gains are a big blog to Russian forces, it is premature to expect a broader Russian defeat in the war.

European markets have responded positively to the idea that an end to the conflict might now be a little closer. The euro was last trading with gains of close to 1.0% on the day versus the buck, with EUR/USD last around 1.0130 having at one point neared 1.0200, its highest level this month.

The euro has also been getting a helping hand from hawkish ECB commentary over the weekend.

The pan-European Stoxx 600 index of Europe’s largest publicly traded companies was last about 1.4% higher and also at its highest levels this month.

Europe Still Facing a Tough Winter

According to Societe Generale Macro Strategist Kit Juckes, the market’s “euro short position has been growing steadily” and “is sufficiently skewed that a single piece of unexpected news can trigger meaningful short covering”.

However, Jukes warns euro traders not to get ahead of themselves. “There are many steps between news of Ukrainian success in one part of the conflict with Russia and signs that Europe’s energy costs can come down enough to improve the economic outlook,” he said.

Indeed, Europe’s energy crisis that has seen gas and electricity prices surge well beyond historically normal levels due to reduced Russian gas exports shows no signs of easing in the near future.

European governments last week announced a barrage of support packages for consumers and utility companies in an effort to ease the economic impact of the crisis.

But most economists still expect the Eurozone economy to slide into recession this year, as high energy costs eat into consumer living standards and as industry faces possible closures amid potential energy rationing.

Analysts at Deutsche Bank warn that “Ukraine’s surprise success… increases the chances of a more aggressive response from Russia”. That could come in the form of escalatory military actions, or in the form of an escalated response to the West (namely Europe) over its continued military support for Ukraine.

Such a move, especially if it serves to worsen the already acute energy crisis faced in Europe, could quickly see recent gains in European markets unwound.