Sunday marks 100 days since war broke out in the Middle East, and the conflict continues to cause major volatility across asset classes in all regions of the world as a lasting peace deal remains elusive.
Negotiations between the US and Iran have stalled, with Washington and Tehran sending mixed messages about the status of peace talks and the two sides occasionally exchanging military strikes. However, a fragile suspension remains in place to allow negotiations to take place.
As the conflict escalates, pressure continues to mount on certain economies and pockets of financial markets.
Wall Street bulls are withdrawing the fight
Right after the first US and Israeli strikes against Iran, stocks around the world sold off. While listed stocks in other markets struggled to regain strength, Wall Street’s big numbers erased early losses as investors looked to war, higher oil prices and the impact of inflationary pressures. I S&P 500 reached a new all-time high as the war continued.
Iain Barnes, chief investment officer at Netwealth, said equity markets were being driven by the idea that the war would move the world’s largest energy-producing economy from an “unfortunate state of decline” to an upside. But optimism about the future disruptive power of AI and its lucrative role for US companies has also taken root.
“This has seen the stock markets strongly but clearly led by those companies in the US and Asian markets that are seen as direct beneficiaries of the use of AI,” he said in an email. “European stocks have weakened significantly as the impact of rising energy costs is more problematic.”
“The investment in AI infrastructure has identified a number of potential problems, not the least of which is the insatiable demand for computing power that is fueling the stock prices of semiconductor stocks,” Toni Meadows, head of investments at BRI Wealth Management, told CNBC in an email.
“Whole markets and economies like South Korea and Taiwan are getting a boost because of it.”
He added that since the US is self-sufficient in oil, the pressure caused by the conflict in the Gulf is less immediate for the world’s largest economy.
“If the Strait of Hormuz remains closed, inflation is likely to continue but investors seem willing to believe that Trump or the Iranians want to prolong the conflict,” Meadows said. “That means that, at some point the impact of the conflict, if it is not resolved, will lead to a demand for destruction that investors cannot ignore. But that point has not been reached and although the markets are led by a small number of shares, the flow of good news for those companies exceeds the uncertainty in other sectors such as consumer shares.”
Bond produces a spike
Government bonds have been volatile since the start of the war, but yields on private debt remain high.
Bond yields and prices move in opposite directions, so higher yields mean lower pressure on asset prices.
Yields on US Treasuries are among those that have risen since the war, as investors flock to higher inflation rates and hawkish monetary policy. Last month, the harvest on the 30 year treasury it reached its highest level since before the Financial Crisis.
Many major economies have seen a similar pattern.
The UK, which has also been caught up in domestic political turmoil, has seen its government responsibilities – known as gilts – sell more.
Neil Birrell, chief investment officer at Premier Miton Investors, told CNBC that bond markets have taken the view that there is “something to worry about,” pointing to concerns about inflation, low growth and supply chain disruptions.
“The long term of inflation and interest rates are probably more important than the absolute peaks they reach, so since the current situation looks permanent, economic growth will be disrupted and bond yields will remain high, making it difficult for equities to maintain their level,” he said.
Oil prices have fallen – but concerns remain
The Strait of Hormuz – a key oil shipping route in the Middle East – has been closed for the duration of the war, leading to large swings in oil prices as traders reacted to news about missile strikes, peace talks and ceasefires.
Although prices have fallen significantly from their wartime highs, they remain well above where they were trading before the conflict began. The world benchmark Brent crude oil futures they trade at about 36% above their pre-war price, while the US West Texas Intermediate futures they are still up about 50%.
The blockade of the Strait of Hormuz, coupled with the damage and shutdown of key energy production facilities in the Middle East, has created severe supply constraints.
Oil supply problems have forced oil importers to look to other suppliers. Over the past 100 days there has been an increase in exports – something Tamas Varga, an analyst at PVM Oil Associates, said is one of the factors that “seems to be limiting the main price rally” in crude markets.
“This includes the release of the Strategic Petroleum Reserve, the lifting of sanctions on Iranian and Russian oil in the waters, the reduction of Chinese oil sales, alternative ways of transporting oil from the Persian Gulf to Asia and Europe, increasing the US export of crude oil and refined products and finally, it wants to be destroyed,” he said.
But he added that if oil stocks continue to decline throughout June, they will reach their critical operating levels and the race to find oil will intensify. If that happens, he said, “a break back above $100 is imminent.”
“It is important that the Strait reopens quickly to alleviate resource shortages and, as a result, inflationary pressures,” Varga said.
Inflation is on the rise
Economic data has begun to show the wider impact the war is having beyond financial markets.
As the ongoing war keeps energy costs high, inflation across the various major economies has begun to show rising prices – driven by rising costs of oil, gas, jet fuel and petrol.
In the US, the consumer price index reached an annual rate of 3.8% in April, its highest rate in nearly three years.
A decrease in energy supplies from the Middle East has been a major cause of inflation, although rising prices have prompted government intervention in other countries, including Germany and India.
Paul Surguy, managing director at Kingswood Group, asked if the markets had “come together to be indifferent to world wars.”
“Are we seeing if it’s not a return to the TACO trade, just general indifference to ongoing policy changes from the White House?” he said.
“First of all, I will not trust it. Second, we have seen this game before – significant market movements at the beginning of the trade debate were painful, as time goes on the change in costs may not even register on the tape.”
“What we’re seeing is that US military support is falling all the time, military funding is at an all-time high and both sides are undoubtedly looking for a face-saving exit. This, rather than the current state of play, is likely to have an impact on the long-term price of oil. Nobody wants to be here in six months.”
– CNBC’s Bryn Bache, Emilia Hardie and Emma Graham contributed to this report.
