Last week, we shared an overview of rising tensions in Iran and the broader Middle East and what those developments could mean for investors. Since then, several important updates have occurred. While the situation remains fluid, here are the key developments we’re watching and how they may impact markets.
Leadership Change in Iran
Iran has appointed Mojtaba Khamenei, the second son of the late Ayatollah Ali Khamenei, as the country’s new Supreme Leader after his father was killed in the opening strikes of the conflict. At this point, Mojtaba Khamenei is expected to continue his father’s hardline and anti-Western policies.
Iran’s Response
Direct missile and drone activity from Iran has declined somewhat, but activity from regional proxy groups and geographic spillover across the region has increased.
Iran has also stated publicly that its strikes are not intended to target neighboring countries themselves, but rather U.S. military bases located within those countries.
Disruptions to Energy Routes
One of the most significant developments involves the Strait of Hormuz, a critical route for global oil shipments that normally carries up to 20% of the world’s oil supply.
The strait is now functionally shut down rather than simply avoided. In addition, some Middle Eastern oil producers are reportedly cutting production due to the lack of an export route.
Energy markets have reacted quickly. Oil prices have surged, though futures markets suggest investors still expect the Strait to eventually reopen. Current spot prices remain well above three-, six-, and nine-month futures contracts, reflecting expectations that the disruption may not be permanent.
Market Reaction
Global markets have begun to respond to the growing supply disruptions.
Actual oil supply losses are now starting to appear, particularly in Europe and Asia, which are heavily dependent on Middle Eastern energy exports. This is likely to increase international pressure to reopen the Strait of Hormuz.
Since the conflict began, the spot price of oil has risen by nearly 50%. However, for global markets and the broader economy, the duration of elevated oil prices may matter more than the exact peak price.
Equity markets declined about 4% over the past week, while bond markets posted a slight loss. At the moment, equity performance is moving almost perfectly opposite to oil prices. If oil begins to move lower, it would likely provide relief for stock markets.
Diplomatic Efforts
Neither China nor Russia has directly engaged in the conflict. While there had been expectations that diplomacy might quickly cool tensions, that outcome has not materialized yet.
What We’re Monitoring
Our team continues to closely monitor several key factors as the situation evolves.
- Supply chain risks. Any prolonged closure of the Strait of Hormuz or extended military escalation could affect global supply chains, particularly in the energy, industrial, and transportation sectors. Supply disruptions are already beginning to appear in Europe and Asia.
- Central bank policy. Policymakers, including the Federal Reserve, will need to consider the inflationary effects of higher energy prices. Some Fed officials have acknowledged the conflict could push inflation higher, but many have indicated they would likely look through a temporary oil shock. For now, a “wait-and-see” approach remains the most likely path.
- Potential escalation or de-escalation. Although further escalation cannot be ruled out, several indicators suggest that the Strait of Hormuz is more likely to remain closed for weeks rather than months. A reopening would swiftly ease pressures in both oil and equity markets
What This Means for Your Portfolio
Periods of geopolitical tension can lead to short-term market volatility. While the headlines can be unsettling, it’s important to keep developments in perspective.
- Volatility and safe-haven assets. Safe-haven assets such as U.S. Treasuries and defensive sectors like utilities and consumer staples may hold up better during periods of uncertainty. This continues to be our view.
- Global diversification. We remain confident in the benefits of global diversification. A diversified portfolio helps manage risks across regions and asset classes during periods like this.
As always, we will continue to monitor developments closely. If we believe changes could improve the risk/return profile of portfolios, we will take action and keep you informed.
