Last week we wrote to you about the new war in the Middle East, and some of its ramifications for investors. We also promised to keep you well informed. Here are some further thoughts, written on the eleventh day of the war:
One of the geo-political events that global investors feared most was the closure of the Straits of Hormuz, through which huge amounts of oil and gas is transported in ships towards buyers around the world. Maritime traffic through the Straits has been almost zero for some days now. Most investors agree that a prolonged closure of the Straits would cause an energy price shock with many secondary effects including price increases (and eventually shortages) in dependent products such as fertilisers. UK Chancellor Reeves warned yesterday that the war is likely to push UK inflation higher. Unsurprisingly, government bonds have been weak since the war started.
Risk assets have generally fallen in reaction to this bad news, and the effect has been most pronounced in countries that rely more on imports from the Gulf, such as South Korea and Japan. However, global stock markets have been more resilient than one might expect, and seem to be pricing in an imminent re-opening of the Straits. A Reuters headline today says: “Markets bet Trump will end Iran war soon” after comments by the US President at a press conference. Oil prices gyrated wildly yesterday, as you might expect. I’d summarise all this as: share prices have generally fallen, but not by much, and remain volatile and attuned to changes in newsflow. Energy prices are higher, but well below their peaks of Monday morning, probably in anticipation of some kind of normalisation soon. Bonds have been weak as inflationary expectations have risen.
How have our various investment managers reacted to this news and volatility? I’ve read all of their recent communications, and would sum up their thoughts and actions as follows: most believe that the market is ‘pricing in’ (i.e. expects) a relatively short war – one to two months in duration. Some are concerned that expectations for future inflation are too low, and that these could rise a bit. Several managers explain the benefit of broad diversification: not just owning shares and bonds, but also alternative assets and gold. All believe that they are well positioned for whatever comes next, and so do not plan to make substantial changes.
In essence, the managers are saying that broad diversification is an effective strategy for dealing with most shocks, and that they are already well diversified. Furthermore, events are hard to predict and the managers are not fixated by near-term events, but more focused on investment as a long-term exercise.