EUR/USD bleeds out the Russian & Ukraine peace talk rally

• EUR/USD peace talk rally is faded as the US dollar recovers. 
• Ukraine and Russian peace talks are making positive progress but risk of global recession looms. 

Trading at 1.1078 currently, EUR/USD is back under pressure in the mid-US session trading in the green by some 0.87% after correcting from the peace talk rally highs of 1.1137, its highest level since March 17. 

During the highly anticipated start of fresh peace talks, Russia promised on Tuesday to scale down military operations around Ukraine's capital and north, while Kyiv proposed Ukraine to join the EU while adopting neutral status and not join NATO. The Financial Times had previewed such a proposal on Monday which led to a bout of risk-on during the latter part of the New York session. 

This was the first taste of any real progress towards negotiating peace between the two nations and the markets have reacted in kind. Their talks took place in an Istanbul palace more than a month into the largest attack on a European nation since World War II. 

''Talks successful enough for a possible meeting between Putin and Zelensky, says Ukrainian presidential advisor Mykhailo Podolyak. “We have documents prepared now which allow the presidents to meet on a bilateral basis," he said.

In response, the safe-haven US dollar fell against a basket of peer currencies on Tuesday as measured by the DXY index which is trading off the lows of 98.037 and back to 98.485 currently. Meanwhile, steps toward a ceasefire or potential peace deal in Ukraine would be expected to significantly support the euro as Europe is seen suffering a hefty economic hit from the conflict and rises in energy prices.

Nevertheless, the markets are very much driven by headlines and the volatility is starting to wipe out some of the risk-on gains made at the start of the day. Some of the subsequent announcements have not been so positive, with Russia's top negotiator saying that there is still a long way to go until a mutually acceptable agreement with Ukraine is reached and de-escalation around Kyiv and Chernihiv does not mean a cease-fire.

British Prime Minister Boris Johnson said a ceasefire agreement in Ukraine will not be enough to lift British sanctions against Russia. US president, in the same vein, says that the US will keep sanctions strong and help aid Ukraine in its military forces. 

Yield curve inversion implications

Additionally, there are concerns out there in markets that a recession is on the way as the US 5s30s curve has inverted for the first time since 2006 and the 2s10s curve has inverted for the first time since 2019 as the market prices in faster rate hikes.

''Historically, a US recession tends to follow a year after the curve inverts, though the variance is large and there are occasional false positives,'' analysts at TD Securities said.

Additionally, the analysts explained, ''the 5s30s inversion signals the market concern that the Fed might choose inflation credibility over achieving a soft landing, though it is too early to draw this conclusion. The Fed is sounding hawkish right now, but if growth begins to slow, some of the Fed's urgency to tighten will fade. "Nimble" could become consistent with a pause once the Fed reaches neutral. Note that QT will also be tightening financial conditions in the background.''

For now, however, the interest rate differentials between the US, EU and other nations, such as Japan, is underpinning a strong safe-haven greenback and the meanwhile peace talk relief rally in the euro may struggle to maintain traction.

''In comparison, the steepening in the US has moved way ahead of that in the EU, Japan, and the UK, and is only comparable to Australia,'' analysts at Brown Brothers Harriman said. ''This supports our view that growth differentials (and inflation expectations) are starting to play an increasingly larger role in asset prices as investors become more confident that the vaccine-led normalization is within sight.'' 

''While we are getting increasingly confident that the US dollar can carve out a bottom in the first quarter, the recovery won’t be a straight line as the US data can continue to disappoint.  That said, the vaccine rollout here continues and should allow the US economy (and the dollar) to outperform in the coming months.''