MorningWord 11/25/15: Talkin Turkey

by Dan November 25, 2015 9:38 am • Commentary

Last night on CNBC’s Fast Money we had former Army Colonel and Medal of Honor Winner Jack Jacobs to discuss what he calls two likely negative outcomes that could result from Turkey’s shooting down a Russian fighter jet. Watch here:

In summary he had two scenarios, one bad, and one worse:

  1. SCENARIO # 1 “ THE BAD”: Putin won’t directly bomb Turkey. He’s understands that directly bombing Turkey will draw the ire of NATO. Most likely, he’ll make a statement by bombing a Turkish encampment within Syria’s border. It may be tomorrow or it may be a month from now, but either way he’ll claim it was a mistake, but the statement will be clear. Think about when a pitcher retaliates by hitting the opposing team’s best hitter.
  2. SCENARIO # 2: “THE WORST”: If Russia bombs Turkey, NATO will have to come to Turkey’s defense. With rising tensions comes a lack of focus on fighting ISIS. Hopefully things cool down, as NATO is calling for calm, but without Russian cooperation it will be impossible to form a united and coordinated front against ISIS. Right now, you have a small piece of airspace occupied by multiple nations with multiple agendas. Mistakes will continue to happen without coordination.

The panelists were asked to respond (here) which scenario they thought was most likely and offer up a trade or investment idea to mitigate risk in our portfolios in the event of geopolitical downward volatility in global markets.  My response was that a “less bad” scenario was more likely. But increased tensions so close to the Eurozone pretty much guarantees more QE from the ECB, driving the Euro lower and the Dollar higher.  For a whole host of reasons I believe the US Dollar breaks out to new highs, and continues to march higher as our Fed is set to raise rates for the first time since June 2006. (last week in a post titled Trade Idea – UUP and Away, I detailed how I have financed the purchase of longer dated UUP calls by selling shorter dated ones).

Bloomberg had a great article titled Ten Billion Reasons Why Russia Will Balk at Curbing Turkey’s Gas as a response to the downed jet.  Simply put, the Russian economy is in such a bad state, they can’t afford to cut supply, as two countries they are now in strained relations (Ukraine) are the second and third largest natural gas importers from Russia, behind Germany:

From Bloomberg
From Bloomberg

One of the Russian pilots was rescued overnight. This unfortunate event is unlikely to cause World War III and we can probably lower the Defcon Level to 2 for now. The quick re-tracement in the VIX yesterday indicates the same. Shortly after the open yesterday, when the S&P 500 (SPX) was down 80 bps, the VIX was up 10%. It closed nearly unchanged (+2%), below its 200 day moving average and is down 2% in early trading this morning.

With two obvious catalyst in the next three weeks, the ECB meeting on December 3rd and the FOMC meeting here in the U.S. on Dec 16th, its worth taking a look at the implied move in the options market for the SPX between now and December expiration. Tight now it’s 2.5% in either direction. That seems kind of fat when you consider we have just a little more than a month left in a year that the SPX is only up 1.5%.