Investors are looking for signs that the Middle East conflict is easing.
Altaf Kassam, EMEA head of Investment Strategy and Research for State Street Global Advisors, provided an enlightening reality check today, on CNBC.
Kassam warns that while historical precedents show that markets rally often before conflict is officially concluded, the geopolitical landscape of the present – defined as a direct confrontation with Iran — may not adhere to the “snap back” script.
It is more likely that a “risk premium”, or a constant price for risk, will continue to linger over US stock prices long after all the weapons have been put away.
Fear tax on US stock to remain
Kassam stated that financial markets were inherently forward looking – they often priced in the end of a conflict well in advance of the ceasefire.
He noted that in previous wars, the markets discounted the end of wars well before the military conflict ended. This phenomenon may repeat itself if investors perceive a clear diplomatic pathway forward.
Kassam emphasized the White House’s role, stating, “it appears clear that President Trump has prepared some sort of off-ramp and, when he announces the end of the war, markets may start to experience some relief rally.”
He cautioned, however, that while it is possible to have a headline rally, this should not be mistaken for a return of the low volatility environment experienced in prior years.
Kassam does not see the V-shaped economic recovery as imminent
Kassam believes that once the hostilities end, the risk premium currently embedded in US stocks will not disappear.
State Street predicts that risk will be much more sticky in 2026, as opposed to the typical “V”-shaped recovery of the past decade.
Kassam said that “we believe that the risk premia that have been baked into markets will remain there”, adding that “markets are not going to snap back quite as fast as they did when they dropped, nor will we see a mean reversion.”
This means that the damage caused to the global energy supply chain and the increased threat of asymmetrical retaliation has fundamentally changed the price floor, forcing investors to deal with high capital costs and low multiples of earnings for the near future.
Stagflation is a shadow that can be seen looming.
Kassam says that the most significant threat to long-term stock market health is a potential “regime shift” of global economics towards stagflation.
Oil prices are hovering near $100 per barrel, and the Strait of Hormuz is still a hotspot. The twin pressures of stagnant economic growth and increasing prices have created a deadly cocktail for so-called “risky assets”.
Kassam warns that the worst case scenario is “stagflation” and low growth, with increasing inflation. If this happens, passive index investments may no longer be a way to make easy profits.
He concluded that “it’ll be much harder to trade” and suggested that active management, a focus in defensive sectors such as energy-intensive alternative or aerospace could be the best way to deal with this new complex reality.
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