The risk asset bounce we discussed a week ago finally materialized on Friday as more short-covering ensued. This type of volatility is likely to continue. Since crude oil now drives much of the market sentiment, let's begin with the energy markets.

The figure below in yellow is not a typo. Brent crude rallied over 10% on Friday and is some 19% above the mid-week lows. This jump in oil prices sent shares sharply higher.

Source: barchart

Overall market sentiment however remains terrible and contrarian investors are suggesting that risk assets will climb the "wall of worry". Here is the Credit Suisse Global Risk Appetite Index.

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The relationship between crude oil and equities has been amazingly tight recently - which remains a puzzle.

Source: barchart

Below are some potential explanations - none of which seem particularly satisfactory:

1. The collapse in prices has been so precipitous, the implications for corporate credit are not yet clear. Can energy credit problems spill over into other areas?

2. Sovereign credit of some oil producing nations is at risk and could have geopolitical and market ripple effects.

3. The squeeze on fiscal positions of some oil producers is forcing sovereign wealth funds to liquidate their public equity holdings (petrodollars returning home).

4. The collapse in oil prices could trigger a global deflationary spiral, hurting share valuations.

We will have a survey on this shortly and we would welcome other potential explanations. By the way, here is why deflation risks have risen as a result of the weakness in oil prices. Here is a chart comparing inflation expectations and crude oil.

Source: Credit Suisse

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Continuing with crude oil markets, below is the latest US oil rig count. Of course these days it's less about rigs and more about wells, but it's a helpful indicator nevertheless.

Source: @SoberLook, Baker Hughes

Speaking of deflation, Oxford Economics doesn't see deflation in the Eurozone in spite of the collapse in oil prices. Perhaps.

Source: @OxfordEconomics

Dr. Draghi obviously doesn't see it that way as he prepares the markets for further easing. The euribor futures are pricing in another ECB rate cut - deeper into negative territory. The second chart below shows the German 1-year yield near record lows - also pricing in a rate cut.

Source: Investing.com

This time around however the tighter financial conditions in the Eurozone are driven by the corporate sector rather than the periphery sovereigns and the financial sector. The charts below compare equity markets and credit spreads (green) with Italian and Spanish bonds spreads (to Germany).

The market uncertainty is already spilling over into economic survey results in the Eurozone, which should give Draghi more cover to ease policy further.

Source: Markit

Source: Morgan Stanley

This is not a disaster, but the market volatility is clearly taking its toll.

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One other item on the Eurozone worth mentioning is how Germany is driving the area's current account surplus.

Source: @OxfordEconomics

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Japan's export growth fell to the worst level since 2012. Imports fell even more, driven by low energy prices (and weak domestic demand) putting Japan into a trade surplus.

Source: Investing.com

Speculative accounts continue to increase their long yen positions with the view that the BoJ is unlikely to accelerate securities purchases in the near-term. Perhaps.

Source: Investing.com

Turning to emerging markets, the Russian ruble rallied 5% on stronger crude oil prices. The nation's fiscal situation however remains shaky at crude oil below $35/bbl.

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In spite of the recent headwinds, BAML sees India's economy outperforming other EM nations. 

Source: BAML

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By the way, the outflows from emerging markets in 2015 have been spectacular. Here is a historical perspective.

Source: @SaltyMain, qz.com

Canadian inflation measures surprised to the downside in spite of the weak loonie. The chart below shows the core inflation measure missing consensus - something that can't be fully explained by weak energy prices. This may open room for the BOC to ease further.

Source: Investing.com

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Back in the United States we have a number of key economic trends to cover.

1. The GS US Financial Conditions Index shows that the Fed doesn't need to tighten further this year - the markets already did it for them.

Source: Goldman Sachs

What are the key drivers of this tightening in financial conditions? It's mostly the dollar strength (discussed last week) and the equity market correction (with a smaller contribution coming from widening credit spreads).

Source: Goldman Sachs

Here is the impact of these tighter financial conditions on growth and inflation projections.

Source: Morgan Stanley

2. Given the above, why would the Fed consider raising rates again in 2016? Surprisingly, Credit Suisse sees 3 rate hikes this year.

Source: Credit Suisse

What do the Daily Shot readers think? They certainly don't buy the above forecast. This is much closer to what's priced into the futures markets.

Thanks everyone for participating!

3. Last year's fourth quarter GDP projections have collapsed based on poor economic data out of the US. This is one of the reasons some have been suggesting that the US could enter a recession (see a note from a Daily Shot reader at the end). Here are the GDP trackers from the Atlanta Fed and Morgan Stanley.

Source: Atlanta Fed

While a full-blown recession is unlikely, US growth has certainly stalled at the end of last year. The tightness in the financial conditions will pressure growth this quarter as well.

4. CIBC argues that US workers "on the sidelines" (out of workforce) have been holding down US wage growth (we've discussed this a few days ago). Based on their forecast, the next couple of years should see an improvement.

Source: CIBC

Note that according to the Atlanta Fed, wage growth improvements are already taking place. Will the dollar strength and more "offshoring" (including services) create a drag on wages going forward?

5. On a more positive note, US existing home sales surprised to the upside. The housing supply in the US remains tight (due to limited construction of homes) and as we head into the busy spring season, prices could rise further. This may make it increasingly difficult for first-time buyers to enter the market.

Now let's take a look at a few notable market trends.

1. Debt and equity fund flows explain in part the pressure on the US corporate credit and equity markets.

2. Speculative accounts are "fighting the tape" on rates. Again. This is a dangerous bet given the disinflationary winds ...>

Source: BNP Paribas

3. US small caps have outperformed over the past 3 days. Is the sentiment shifting?

Source: Ycharts.com

4. Speculative accounts are now very short copper. Will we see some short-covering?

 Source: Investing.com

 Source: barchart

Finally, following up on Friday's table which shows the longer-term S&P500 returns after the non-recession corrections, here is an interesting note from a Daily Shot reader. 

Source: A Wealth of Common Sense, h/t Stan

Dear Editor,

I found your chart on S&P rebounds after double-digit declines interesting.

However, it might serve readers well to point out the following: There are two principal drivers of S&P declines - recession and financial panic. Sometimes recession and panic run together (2008), Sometimes panics happen without recession (1987, 1998), and sometimes recessions happen without panics (1947, 1960, 1990, etc).

In order to make best use of the chart, it's helpful to sort out which is most likely now. My view is the market is anticipating recession. The antecedents for a panic are in place, but there's no catalyst at the moment. The key is to watch the recession dynamics, but be alert to panic triggers such as a prominent bank failure, emerging markets default, or more than two rate hikes this year, etc.

All best,
Jim

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Turning to Food for Thought, we have 5 items this morning:

1. We start with the latest 2016 GOP presidential nomination odds from the betting markets. Note that these do not add up to $100 because of some minimum price levels for the lower probability candidates (which trade a bit like out-of-the-money options).

Source: @PredictIt_

2. Netflix viewership continues to rise after adding 17 million new subscribers in 2015.

Source: @Statista, h/t Jake

3. Views on whether digital media improved people's lives vary significantly across the globe.

Source: @comScore, h/t Jake

4. The ongoing decline in the offline population ...

Source:  @pewresearch,  h/t Jake

5. Viva la revolución ... and massive luxury SUVs.

Source: @RileytheMac