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- In the immediate aftermath of the US and Israel’s ‘major combat operations’ in Iran we initially witnessed a muted market reaction. As time progressed, however, risk appetite weakened, with equities and bonds selling off on concerns over the potential duration of the war and the consequences for energy prices, inflation, growth and interest rates. We have seen the oil price reach $85/barrel, up around 16% on last week, and to a level which is now above the 5-year average. The moves higher in percentage terms for gas have been even more dramatic, spiking by over 50%. The increases in energy prices reflect concerns over the shutdown of energy shipments through the Strait of Hormuz, a key maritime chokepoint on Iran’s south coast. Around 20% of global oil supplies and 20% of natural gas supplies is shipped through the Strait.
- UK Chancellor Rachel Reeves said she had “restored economic stability” in the face of global uncertainty in her Spring Statement to Parliament. The OBR forecast UK growth to be 1.1% in 2026, lower than their previous forecast (made last November) of 1.4%. The OBR caveated their forecasts with a warning that the UK economy could face a “very significant” hit from the war in Iran. Inflation is expected to ease from 3.4% in 2025 to 2.3% this year. On the fiscal side, the OBR anticipates a surplus by 2028-29, with fiscal headroom expected to be £23.6bn. The Chancellor made no major policy announcements, in line with her pledge made last autumn to hold just one fiscal event a year to give households and businesses more certainty.
Market movers
Setting aside the geopolitical questions, the key risks for financial markets and the global economy relate to the impact on energy prices. A short spike in pricing is substantially easier to digest than a sustained increase but the potential for persistently higher energy prices increases with expectations that the conflict will endure for several weeks.
The impact to energy prices can be mitigated by ensuring that oil and gas can continue to transit the Strait of Hormuz. The Strait has been effectively ‘closed’ to shipping since the weekend, with oil and gas tankers holding short of the Strait as insurance has either been withdrawn or increased to uneconomic levels. The Financial Times reports at least six tankers have been hit in the Gulf since Saturday. As a result, we have seen significant increases in both oil and gas prices. Much of the energy that is shipped from the Gulf is headed for Asia, but with prices set globally, the impact is felt everywhere.
President Trump said on Tuesday that the US would “immediately” provide insurance for shipping transiting through the Strait of Hormuz, and that the US Navy would escort tankers if necessary. Trump stated that insurance would be offered through the US Development Finance Corp at “a very reasonable price” but gave no further detail. There is a template for shipping convoys through the Strait of Hormuz. During the Iran-Iraq war and the “tanker wars” phase in 1987-88 a coalition of navies (the US, UK, France and the Soviet Union) provided protection for shipping transiting the Strait while navy and special forces operations took place to detect and stop the laying of mines. Some ships were still damaged during the naval convoys, either being hit by missiles or hitting mines. Any such operation will take time to establish given resources are currently focused on attacking Iran and ensuring more Iranian Naval resources and anti-ship capabilities are destroyed. The US is reported to have sunk 17 Iranian ships so far.
While the US offer of insurance is a positive step, it will still depend on the risk tolerance of shipping companies in the absence of the usual commercial insurance. Iran has not deployed mines, but the FT reports that it maintains one of the world’s largest stockpiles. Iran also has armed drones, anti-ship missiles, a small number of Russian built submarines and a limited number of mini submarines. Vessels can also be intercepted by fast attack boats as well as mines placed on small commercial fishing boats and dhows. Upside risks to energy prices will remain a concern even if the shipping issues are contained given that Iran has already attacked energy infrastructure in both Qatar and Saudi Arabia. Meanwhile, oil production in Iraq has slowed, as storage capacity runs out.
The investment lens
The economic and political backdrop is now highly uncertain and fluid. The mood in financial markets continues to shift depending on views around the duration of the conflict and the subsequent impact on the outlook for economic growth, inflation and interest rates.
The situation will evolve rapidly, and financial markets will attempt to price in changes in expectations for the duration and impact of the military campaign. The key risk to the global economy remains higher energy prices, and efforts to mitigate the worst of the impact, through the use of reserves, increased output elsewhere and protection of shipping lanes, will help to suppress extreme moves in energy costs. However, the longer the conflict endures and energy prices remain elevated, the greater the potential for the conflict to negatively impact on the outlook for inflation, economic growth and risk assets.
Market volatility does present opportunities to add to favoured assets once there is some more clarity on the path forwards. In the short term, the ‘fog of war’ will likely see continued volatility, but we should be mindful that the economic backdrop coming into this crisis was relatively benign. So long as this conflict does not endure, causing a sustained shock to energy prices, then those benign economic fundamentals should prevail.
