Shelters in a protracted conflict
The conflict is changing too rapidly for analysis to parameterize its consequences, and daily volatility is likely to last longer than anticipated.
The general consensus was that the conflict would be short-lived. And yet… Financial markets remain under pressure from rising energy prices , and central banks are hesitant to lower interest rates due to inflationary fears .
Stock markets are falling and bond yields are rising globally, driving down bond prices. Meanwhile, the United States is intensifying its efforts to reopen the Strait of Hormuz .
This lack of interest rate easing poses an additional obstacle for equities , and the aforementioned increase in fixed-income yields and the strength of the Dollar continue to weigh down gold and silver prices, which broke through key technical levels last week.
Where to take refuge then?
Some investors may think that the only safe haven right now is a barrel of oil , but rising interest rates don’t hurt all assets, as I show here:
- Given that markets are pricing in inflation and higher interest rates, let’s take advantage of the rising yields on one-year Treasury bills issued by Italy, France, Germany, and Spain, which have increased by an average of 0.5% since the start of the conflict and now offer an average return of 2.5% . That’s not bad at all, considering they are the highest quality and most liquid bonds available.
- If we believe that the Dollar will continue its recovery against the Euro, which I see as quite likely, the short end of the US Treasury curve currently offers around 4%, and there are investment funds denominated in euros – therefore it is not necessary to change currency to subscribe to them – that take advantage of this extra return (assuming the Dollar risk, logically).
- Some types of fixed income, such as cat bonds or ABS , are holding up remarkably well and, barring any major negative surprises in expected global growth, will continue to do so. Accessing these types of fixed income through investment funds is straightforward.
In short, markets are pricing in an inflation shock too quickly , and while these upside risks to inflation and downside risks to growth are currently evident, rushing into equities or fixed income could lead to setbacks. The assets mentioned above, in addition to offering more than acceptable returns in the current environment, provide stability to a portfolio.
What might happen in the short term
The Iranian Shiite theocracy is putting pressure on the world thanks to its ability to destabilize the energy, oil and gas market, which I estimate is transitory but right now brings enormous uncertainty .
However, if central banks remain firm and do not force an precipitous increase in official interest rates, and if the West shows unity of action beyond mere statements by President Trump, we could soon see a favorable and sustained turn in market performance .
Let’s not forget that Trump, the driving force behind what is happening, is jeopardizing control of both legislative chambers in the upcoming November midterm elections , and changes in his rhetoric that could alter the course of the war, as happened yesterday, could positively impact the performance of global equities and fixed income.
Investor conclusion: the magic formula
The fundamentals of investing remain the same, and I defined them a week ago as the «magic formula» : invest with a long-term vision , maintain good asset diversification consistent with each investor’s risk tolerance, and not worry too much about short-term noise . If we add, which is essential nowadays, active management that more dynamically identifies risks and opportunities, we can emerge successfully from this crisis.