Key Takeaways
- Markets have remained relatively calm despite a fluctuating geopolitical and policy backdrop.
- Oil has been the clearest exception, with Brent crude falling as fears of Middle East disruption have eased.
- Investors appear reassured that the Strait of Hormuz remains open and global economic disruption has been limited.
- UK political uncertainty has so far had little impact on gilts, helped by expectations of fiscal continuity.
- The Federal Reserve may present the bigger market risk, as investors reassess the possibility of US rate hikes rather than cuts.
Despite a fluctuating geopolitical and policy backdrop, financial markets have remained relatively contained. The main exception has been oil, where easing fears around disruption in the Middle East have helped prices move lower.
There is no shortage of potential catalysts for markets at present, from developments in the Middle East to political change in the UK and a more uncertain outlook for US monetary policy. Yet, outside energy markets, the overall response has been relatively muted.
The most notable move has been in oil. Brent crude has continued to decline, falling back towards levels last seen in March, at around US$77 a barrel. This reflects growing confidence that the US and Iran are making progress towards a peace agreement, even if a final deal is unlikely to be straightforward.
Previous negotiations over Iran’s nuclear programme took more than two years, so investors should be realistic about the challenges ahead. However, the key point for markets is that the Strait of Hormuz remains open and disruption to the global economy has so far been limited. Equity indices appear to be reflecting that outcome: a conflict that has lasted longer than initially expected, but not one that has materially altered the broader macro-outlook.
The UK is also facing another period of political transition. A decade after the Brexit referendum, the country may soon be on course for its seventh prime minister in just over ten years. For now, however, markets have shown little sign of stress.
One reason is that the likely new prime minister, Andy Burnham, has indicated that he would stick to Rachel Reeves’ fiscal rules. From a bond-market perspective, that commitment matters. Details on policy remain limited, and investors will be watching the leadership process closely, with nominations expected to close in mid-July. If there are no further contenders, markets should soon have greater clarity on the direction of the next government.
The more meaningful shift for markets may be coming from the Federal Reserve (Fed). Following last week’s round of central bank meetings, new Fed Chair Kevin Warsh struck a slightly more hawkish tone than expected and gave limited guidance on the likely path of policy.
The Fed also did not participate in the dot plot, leaving investors with less visibility over where rates may go next. That matters because the US economy remains in relatively good shape, the labour market has stabilised, but inflation remains a concern. Against that backdrop, markets are beginning to price the possibility of US rate hikes rather than cuts, which may cap sentiment in the near term.
For investors, the message is one of measured vigilance. Markets have largely looked through recent geopolitical and political risks, helped by limited economic disruption and lower oil prices. However, the policy backdrop is becoming less predictable, particularly in the US. In that environment, asset prices may remain sensitive to shifts in inflation data, central bank communication and any renewed signs of geopolitical disruption.
