The Market Impact of the Iran War and Why You Should Stay the Course Through Geopolitically-Driven Volatility

Arguably the biggest story from the first quarter was the launch of “Operation Epic Fury”. I say arguably only because of the mayhem A.I. startup Anthropic has caused with each of their product releases. At the end of February, the U.S. and Israel launched attacks taking out Iranian military infrastructure and leadership. These attacks were followed by Iranian retaliation on U.S., Israeli, and Gulf state ally locations. Aside from the general uncertainty caused by war, the biggest market impact came from the ensuing oil shock and impact on regional natural gas infrastructure.

Iran sits adjacent to the Strait of Hormuz which sees a significant amount of oil carried through it from Middle East origins. From the end of February to the end of March, the price of a barrel of oil as measured by the West Texas Intermediate (WTI) benchmark rose from about $67 to just under $103, a 54% increase. While the U.S. economy is now much less energy intensive than it was during prior Middle East related oil shocks (think 1970s and 1980s), oil and natural gas continue to play a significant role in many aspects of the modern economy. From transportation fuels, to plastics manufacturing, electricity production, and fertilizer production, it is difficult to escape surging oil and gas prices. However, the impact from disruptions in Middle East natural gas production is felt less on our home soil as natural gas is a much more fragmented industry with much of production consumed within the producing country’s borders.

Energy price shocks typically ripple through to other assets such as stocks and bonds. Bond yields ticked up following the onset of the conflict, hinting at investors' fears of rising inflation. When inflation rises, investors typically demand higher bond yields to retain a “real” rate of return which pushes down the prices of bonds. Stock markets began to sell off following the late February strikes with U.S. markets falling over 5% during the month of March and many emerging markets countries with high dependencies on imported oil/gas falling much further. For example, South Korea, which is very dependent on imports, saw its stock market fall close to 19% in March.

As with any period of market stress and uncertainty, daily market volatility picked up. During March, there were 6 trading days during which the S&P 500 price fell over 1%. However, the last trading day of the month saw the market rise 2.91%, which is higher than over 98% of all trading days in data dating back to the beginning of 1993. This surge was sparked by optimism over de-escalation and the potential for a cease fire and negotiations. Through 4/17, the average daily return of the S&P 500 has been 0.66% with three days over 1% and one day over 2.5%. This has led to a market that is now back to all-time highs. The moral of the story here is that markets are incredibly difficult to predict in the short-term and, especially with geopolitically driven downturns, you never know when a glimpse of positive news could send the market soaring. With the rise of prediction markets, zero-day options, and leveraged ETFs, short-term trading is likely having a substantial impact on day-to-day market moves. For long-term oriented investors, like ourselves and our clients, the key is to keep your eye on the reasons behind your portfolio construction. While short-term volatility can be stressful, your portfolio should be designed so that you can weather the storm, both mentally and financially.