Markets under the spell of the Iran conflict

Energy prices drive infla­tion fears

Rising energy prices act like a tax on the global economy. They drive up infla­tion, weigh on consump­tion and increase compa­nies’ produc­tion costs. Accor­dingly, the stock markets have been under pressure since the start of the war. European markets and energy-inten­sive sectors were parti­cu­larly hard hit, while energy stocks were among the few winners.

Images / graphics: The graphics were produced by Tareno AG from public market data.

Who has more staying power?

The further course of the markets depends cruci­ally on the duration of the conflict. At the begin­ning, US Presi­dent Donald Trump was banking on a quick end, either through a political deal or a regime change. However, despite military setbacks, the Iranian regime has so far proved resilient.

By hinde­ring energy exports from the Gulf region and attacking critical infras­truc­ture in neigh­boring count­ries, Iran is trying to increase the economic costs for the US and its allies. The conflict is thus incre­a­singly develo­ping into a strategic battle of attri­tion. The decisive factor for the outcome is not only military strength, but also the ability to withstand economic burdens, supply shocks and infras­truc­tural damage over a longer period of time.

The economic risks

Every day that energy exports from the Gulf region remain restricted, the risk of a braking effect on the global economy increases. Accor­ding to estimates by the Inter­na­tional Monetary Fund, an oil price of USD 100 per barrel:

• reduce global economic output by around 0.4 %.
• increase infla­tion by around 1.2 %.

A prolonged supply disrup­tion could drive up the oil price further and put a noticeable brake on the economy.

Base scenario: easing

However, a prolonged conflict is hardly in the interests of the US govern­ment. The American popula­tion is skeptical of a war in Iran, and rising energy prices are politi­cally highly unpopular.

We there­fore continue to believe that an easing of tensions within the coming weeks is the most likely scenario. In this case, the conflict should not cause any lasting economic damage and lead to a calming of the finan­cial markets.

Despite our basic scenario, the risks should not be ignored. After three years of strong price gains, valua­tions on many equity markets are challen­ging and geopo­li­tical shocks could lead to signi­fi­cant setbacks in the short term.

Our recom­men­da­tion there­fore remains: remain invested in view of the probable easing and wait to make any major purchases, taking into account the downside risks.

Countering infla­tion risks strate­gi­cally

The current conflict is yet another reminder that infla­tion shocks repre­sent a key risk for portfo­lios. In such phases, bonds offer only limited protec­tion, as they also suffer price losses in antici­pa­tion of higher interest rates.

In our strategic alloca­tion, we there­fore delibera­tely include asset classes that have proven themselves in infla­tio­nary phases:

• Commo­dity shares
• Infras­truc­ture facili­ties
• Gold
• and a high propor­tion of Swiss francs

These building blocks increase the robust­ness of a portfolio in an environ­ment of incre­a­sing geopo­li­tical tensions and infla­tion risks.