The reduction in risk appetite offset the latest round of global manufacturing data that painted an encouraging picture of the economic recovery.
“The risk premium embedded in the oil price not only reflects the current situation in Libya but also includes the potential for political upheaval to affect oil production in neighbouring and Gulf countries,” said Harry Tchilinguirian, head of commodity markets strategy at BNP Paribas.
Brent crude rose 3.2 per cent to $115.42 a barrel and gold hit a record high of $1,432.10 a troy ounce, surpassing the peak of $1,430.95 reached in December.
The latest rise in crude prices came amid reports of clashes between protesters and security forces in Tehran and as local media stoked worries that unrest could spread to Saudi Arabia.
Early gains for US and European equities were erased as geopolitical uncertainty returned. In New York, the S&P 500 closed down 1.6 per cent, after the FTSE Eurofirst 300 fell 0.6 per cent. Asian markets had a better day, with the Nikkei 225 in Tokyo rising 1.2 per cent, Shanghai gaining 0.5 per cent and Mumbai jumping 3.5 per cent.
The initially positive showings for stocks followed the release of a series of broadly encouraging February manufacturing surveys from across the globe. Purchasing managers’ indices in China pointed to a modest slowdown in growth, soothing fears that the economy was overheating, while manufacturing improved in India, Singapore and Australia. The UK report suggested that the country’s industrial recovery was still on track while there were positive messages from both the eurozone PMI and German labour market data.
But the day’s key release, as ever, came from the US.
The Institute for Supply Management’s headline index of manufacturing activity climbed to a seven-year high of 61.4 this month from 60.8 in January. The employment sub-index rose to 64.5 from 61.7, boding well for Friday’s jobs report.
Paul Dales, of Capital Economics, said the ISM was consistent with annualised GDP growth of about 6 per cent. But he cautioned: “Things aren’t quite that good as other parts of the economy are not performing as well as industry.
“Nonetheless, with the ISM index riding so high, it is hard to see anything but decent rates of GDP growth in the first half of the year.”
Even as the ISM report was being published, Ben Bernanke, chairman of the Federal Reserve, sought to reassure the markets further by playing down the potential impact of the recent surge in oil prices on the US economy.
However, he did warn that sustained rises in the oil price would represent a threat to economic growth and price stability.
In his twice-yearly testimony to Congress on the economy, the Fed chief also reiterated that he still wanted to see a sustained period of stronger US job creation – suggesting that the central bank would complete its programme of quantitative easing, known as QE2, to provide further stimulus to the economy. Rob Carnell, chief international economist at ING, said the biggest takeaway from Mr Bernanke’s speech was that the risk of deflation was “negligible”.
“If so, then ‘QE3’ seems out of the question, and even QE2 looks a bit pointless,” Mr Carnell said.
On the currency markets, data and Mr Bernanke’s comments sent the euro briefly towards $1.39, and sterling to a 13-month high, before risk aversion helped fan a rebound in the dollar.
US government bonds rebounded from early losses as risk aversion intensified. The yield on the 10-year Treasury was 1 basis point lower at 3.40 per cent. The German 10-year Bund yield hit 3.21 per cent before easing back to close flat at 3.18 per cent.