Financial markets will enter the new year worrying about geopolitics, with much to be determined by whether Iran's unprecedented weekend attack on Israel triggers a wave of retaliation.
Investors are already spooked by the prospect of persistently high inflation and long-term interest rates, and the escalation of the Middle East crisis will bring fresh volatility when trading resumes.
When Hamas attacked Israel in October, the biggest fear for many market participants was that Iran would eventually be drawn into the fight. With the current conflict escalating, many believe oil prices could exceed $100 per barrel, leading to a flight to U.S. Treasuries, gold and the dollar, and further stock market declines.
Nerves are still heightened by Iran's statement that “the issue can be considered settled'' and by reports that President Joe Biden told Israeli Prime Minister Benjamin Netanyahu that the United States would not support Israel's counterattack against Iran. It may be relieved.
“In a moment like this, the natural reaction of investors is to look for safe assets,” said Patrick Armstrong, chief investment officer at Prurimi Wealth LLP. “The reaction will depend somewhat on Israel's response. If Israel does not escalate from here, there may be an opportunity to buy risky assets at lower prices.”
Bitcoin has given us early insight into market sentiment. The token fell nearly 9% following Saturday's attack, but rebounded on Sunday to trade around $64,000.
Stock markets in Israel, Saudi Arabia and Qatar recorded small losses amid thin trading volumes.
“Middle East markets opened relatively calmly after the Iranian attack, but this was seen as a measured retaliation rather than an attempt at escalation,” said Emre Akçamak, senior consultant at East Capital in Dubai. said. “However, the market impact could extend beyond the Middle East due to secondary effects on oil and energy prices, potentially impacting the global inflation outlook.”
Investors are now weighing the risks of a strike versus a counterattack cycle, with many looking to oil for guidance on how to respond. Brent crude oil has already risen about 20% this year, trading above $90 a barrel.
The Middle East conflict has not yet affected production, but attacks by the Iranian-backed Houthis in the Red Sea have disrupted shipping. Traders are primarily concerned that the escalation of the conflict could disrupt tanker traffic from the Persian Gulf through the Strait of Hormuz.
Concerns about regional turmoil are also spreading to global markets. The S&P 500 is emerging from its biggest weekly decline since October on the back of better-than-expected inflation and disappointing bank earnings.
In the bond market, traders will weigh the risk of rising energy prices sparking inflation concerns. Treasuries tend to benefit during periods of uncertainty, but the threat that interest rates will remain high could limit their movement. US stock and bond futures begin at 6pm New York time on Sunday.
Meanwhile, gold prices have soared, rising 13% this year to hit an all-time high of more than $2,400 an ounce. Investors are also looking for stability in the US dollar. The currency index rose 1.3% last week, its best performance since late 2022.
Here's what investors and analysts are saying:
Gonzalo Lardies, senior equity fund manager at &Bank, said: “While a new environment of uncertainty is emerging, markets on Friday have already partially priced in this situation, and unless the situation worsens further, there will be no impact.'' It shouldn't be that big.” The risk is if this situation escalates and infections spread within the community. ”
Alfonso Benito, chief investment officer at Dunas Capital, said: “Given how Israel has defended its air defense shield, one would not expect a sharp decline. Airlines could decline, while defense companies should rise and oil and gas should rise. Bonds will rise, but don't think too much. Investors may take advantage of this to partially correct the rally of recent months.”
Diego Fernández, Chief Investment Officer at A&G Banco: “We expect trading in risk assets to decline on a closer basis and we will buy patiently. We are in for a more seasonally complex month.”
“The reaction will largely depend on Israel's reaction today and whether the US manages to rein in Prime Minister Benjamin Netanyahu,” said Joachim Klement, a strategist at Liberum.
“In the coming days, stock markets will focus more on the geopolitical situation than on central bank actions or the strong economy in the US. The rally is expected to stall until the end of the rally. A shootout between Israel and Iran could stall the rally for an even longer period of time.
Mark Matthews, strategist at Julius Baer Bank in Singapore, said: “The good thing is that Iran warned us about the attack in advance. Military analysts say it was carried out in a way that minimized casualties. Why Fed interest rate forecasts could fall further I don't know whether it will do so or whether oil prices will rise significantly. Iran is trying to break out of this, and so is the United States.The key is what kind of answer Israel will give. And what kind of answer will Iran give to that? If Israel makes a de-escalation attack, then Iran makes another de-escalation attack, it will be over.”
said Jeff Yu, senior EMEA market strategist at BNY Mellon in London. Our clients remain overweight in some high-carry currencies such as the euro, Canadian dollar, and Mexican peso, so we'd like to keep an eye on the rotation in favor of the dollar. ”
“Our sense is that the situation in the Middle East will give the Fed further reason to take a more cautious approach to rate cuts, but it could prevent them from cutting rates altogether,” said Neil Shearing, chief economist at Capital Economics in London. That's not the case,” he said. We expect the first move to be made in September. And assuming energy prices don't spike in the next month or so, both the ECB and BOE think he will cut rates in June. ”
