By Ellen Hazen, CFA®, Chief Market Strategist
Today we examine the economic and financial impacts of the Iran conflict, delving into monetary policy challenges, asset class opportunities, market responses, and strategies for investors navigating global uncertainty.
- Markets responded decisively to the US involvement in Iran: energy prices surged, interest rates rose, and riskier assets like equities declined
- There were few signs of systemic stress, which we view as rational repricing rather than a structural change, although the longer hostilities continue and the more damage is done to physical infrastructure, the longer the duration of impact will be
- The conflict represents another supply-side shock layered on top of a macro backdrop of higher inflation sensitivity, higher interest rates, and higher uncertainty
- Energy markets are pricing in near-term scarcity, but not structural disruption, as reflected in oil market “backwardation,” defined as a steeper move in near-term prices than in longer-dated futures
- Knock-on consequences of damage to US allied countries’ infrastructure – such as aluminum – may be longer-lasting, which is reflected in futures contracts
- Inflation expectations have risen sharply for 2026 but remain fairly well anchored beyond the near-term. Markets are suggesting higher inflation is primarily temporary
- Growth expectations have likewise been modestly downgraded for 2026 yet remain unchanged for subsequent years, again signaling that markets view the shock as temporary rather than structural
- Central banks now face tighter constraints. Higher inflation expectations reduce the ability to lower interest rates even as growth softens
- In our view portfolio implications favor discipline over wholesale repositioning
Markets responded swiftly to the escalation involving Iran. Oil prices and European natural gas prices surged by over 60%, US Treasury yields moved higher across the curve, and expectations for monetary policy shifted meaningfully: the probability of Federal Reserve rate cuts declined, while European Central Bank and Bank of England futures began to price hikes rather than easing. Credit spreads widened, but only modestly, signaling caution rather than stress. Energy was the only positively performing sector in the S&P 500 in March, US equities outperformed the rest of the world as the “Sell America” trade reversed, and the US Dollar strengthened.
Taken together, these moves point to a market reacting rationally to an increasingly familiar risk: a supply-side shock like Ukraine and Covid. We view the price action as an indication that investors are repricing inflation risk, interest rates, and uncertainty.
The war adds to an already fragile macro backdrop. This supply side shock comes on top of a world already characterized by higher inflation sensitivity, higher interest rates, and greater uncertainty. The Iran war does not, on its own, appear likely to derail the global economy or corporate earnings, although it is amplifying existing pressures across energy markets, inflation expectations, and risk premiums. This in turn forces investors to reassess how much uncertainty they are willing to endure. In this sense, recent market moves are less about panic and more about repricing. The market is treating this geopolitical shock as another degree of uncertainty layered on top of an already complicated macroeconomic environment.
The direct impact of the war was swiftly reflected in market prices.Energy prices have increased across the board, as have prices of materials derived from petroleum or petroleum processing: fertilizer, aluminum, helium, natural gas. Interest rates have increased materially: during the month of March, the US 2-year yield increased by 0.40% while the US 10-year yield increased by 0.37%. Most risk assets, including equities, declined: the S&P 500 Index declined by 5% during the month while the MSCI World ex-US index declined by 10.2%. Within the S&P 500, the energy sector was the only sector with positive returns, returning 10.4% for the month; all other sectors declined. Perhaps surprisingly, gold declined by nearly 12% in March, although given its 86% increase in the previous twelve months, this may simply reflect an overbought starting point.
The commodity markets have generally signaled near-term scarcity rather than structural disruption, although damage to physical infrastructure may be beginning to change that.
The action was most clearly seen in oil: The West Texas Intermediate oil price rose from $63 to $105 while Brent increased from $73 to $118. European natural gas prices likewise soared. Beyond oil and natural gas, the prices of various products derived from them have increased as well, including fertilizer, urea, and helium. These will consequently translate into higher prices across many areas: gasoline, of course, but also food, shipping, and potentially even semiconductors.
Beyond simply observing higher prices across the commodity complex, looking at the profile of the futures markets is illuminating. The oil futures market is in what practitioners call backwardation, which means that oil prices for near-term delivery – say in the next few months – are higher than oil prices for further-out delivery. Normally, the oil market is not in backwardation; in other words, usually, oil for delivery in the near term is the cheapest. This tells us that oil traders believe the conflict will be resolved in fairly short order. The markets are saying that the disruption will be temporary, not structural.
European natural gas futures were already in backwardation in part because of Ukraine-related disruption. Even so, in the last month natural gas prices for delivery within the next two years soared, suggesting a lengthier disruption to natural gas than to oil.
Commodity impact beyond energy has broadened to areas physically damaged by Iran strikes. For example, aluminum plants have been damaged and will take time to repair; regional aluminum futures prices have increased by 20%.
We expect growth to slow modestly, while inflation pressures have risen. Both professional economists and investors have sharply increased near-term US and global inflation expectations. In the US, economists have increased 2026 inflation expectations from 2.6% to 3.1%, The OECD raised its inflation forecast for the Group of 20 from 2.8% to 4.0%.
This same dynamic is reflected in the markets: inflation breakevens in the Treasury market have sharply increased: the 1-year Treasury breakeven, which reflects investors’ expectations of inflation within one year, increased from 2.3% at the beginning of the year to 5.1% now. Like the oil futures, though, examining the Treasury breakeven curve tells us that the conflict will be fairly short-lived: while the 1-year breakeven has increased by 2.8 percentage points year-to-date, the 2-year has increased by only 0.9 percentage points and the 3-year by only 0.6 percentage points.
We see a similar pattern in growth forecasts: US economists have cut 2026 GDP estimates from 2.5% growth to 2.3% growth while leaving 2027 and 2028 GDP estimates unchanged. Again, this points to the market viewing this as a short-term disruption, not a long-term structural shift.
Our outlook for US investments is relatively unaffected – so far. Entering 2026, we identified three tailwinds to the US economy: fiscal stimulus, monetary stimulus, and artificial intelligence spending. What impact has the Iran war had on our outlook? Fiscal stimulus has been moderated, as higher gas prices will largely offset the benefits from no taxes on tips and overtime. From a monetary perspective, markets now expect zero or one 0.25% interest rate cut, compared to between two and three 0.25% rate cuts by the end of 2026. Artificial intelligence spending has continued to increase. At the beginning of 2026, the big four hyperscalers expected to spend $529 billion on capital expenditures. Now, they expect to spend $674 billion.
Earnings have not yet meaningfully deteriorated, leaving open the question of whether analysts simply have not yet cut estimates, or whether the historically high earnings multiples we’ve become accustomed to over the past few years are unlikely to return.
Higher inflation further constrains central banks. With the sharply higher inflation expectations, at least for 2026, central banks are much less likely to cut interest rates than they were before the war. Federal funds futures – investors’ assessment of what the Fed is likely to do – have changed from pricing in two or possibly three 0.25% interest rate cuts this year to now pricing in less than a single cut. The same measure for European interest rates has gone from pricing in one rate cut by year-end to now pricing in two or three rate increases.
The Fed has a dual mandate – both full employment and stable prices. Currently, these are pulling in opposite directions. The weaker job market would warrant reducing interest rates, while higher inflation argues for higher interest rates. The weaker GDP forecasts and higher inflation expectations have made its job harder.
Monetary policy is generally poorly suited to deal with supply-side shocks, as we have seen before. Classically, fiscal policy is better suited to respond to supply-side shocks. Thus, it is not surprising that markets now expect the Fed to hold steady for longer – it can’t do much to compensate households for higher energy prices.
A few areas stand out in the current environment:
Rates. Interest rates rose across the yield curve since the war started, reflecting both higher inflation expectations and higher real rates. Consequently, we are taking this opportunity to increase duration in client portfolios.
Credit. We view dislocations in higher-grade credit as an opportunity to increase and adjust exposure, while carefully evaluating credits exposed to an AI disruption and/or energy price volatility.
Dollar. In the shorter term, the dollar appreciated by about 2% during March, not only due to perceived safe-haven status, but also because unlike most other developed countries, the US is a net energy exporter. Longer term, we are still bearish on the dollar, as the fiscal deficit and debt situation has not been meaningfully addressed. Indeed, higher interest rates increase the interest expense the government pays to US Treasury holders.
Equities. We remain positive on both US and developed-market international equities, particularly at these lower valuations. US equities outperformed the rest of the world in March, as the “sell America” trade was put on pause. All equities declined globally, as investors decreased the amount they’re willing to pay for earnings, even as earnings estimates continued to rise during the month. We note that corporate earnings estimates have increased in recent weeks, underpinning the asset class’s attractiveness.
Gold. Gold did not act as a safe haven over the past month, but this may reflect how sharply it had appreciated prior to the commencement of hostilities. Our view of gold is not materially different from before.
Conclusion
While this episode is unlikely to derail the global economy or markets, it highlights global exposure to supply-side shocks, and if the situation continues and results in further physical damage, repercussions will last for longer. The Iran conflict has so far acted primarily as an accelerant of forces already underway, including higher interest rates and higher inflation. It has disrupted energy markets and geopolitical alignments, which in turn has increased the risk premium investors are demanding, reducing valuations for both equities and fixed income.
At the same time, market-based indicators consistently suggest a short-term impact rather than a long-term structural change. The market’s response to the Iran conflict highlights how markets are more fragile, more sensitive to surprises, and more dependent on confidence than in recent years. As investors, we view this not as a catalyst to reposition client portfolios but rather a reminder to stick to our discipline of prudent diversification.