No Shortage of Near-Term Uncertainty
Geopolitical Tensions Continue to Influence Global Markets
Oil prices have increased notably, as the war with Iran enters its second week. Iran is taking a pummeling, but the end result remains unclear with multiple possible political and economic outcomes. But we can rule out some. And we think there’s a sensible way to invest to play for a reversal of much of what we experienced in the market last week.
The U.S. Economy Appears Positioned for Continued Growth
What do we think is highly likely around which we can build a thesis of what the future entails? It seems highly likely that the domestic economy will remain on a solid growth trajectory. AI should continue to promote large gains in productivity, so GDP growth should continue well above 2% even if job gains remain quite low. The latest employment report reinforces the recent trend suggesting that job growth is quite slow. But initial claims indicate that layoffs also remain low. High levels of investment in AI, fiscal stimulus due to fiscal policy changes initiated last year, and spending on the war will continue to provide a tailwind to growth. But inflation is unlikely to improve and is likely to worsen temporarily due to higher energy costs and the disruption caused by the war. Still, the U.S. is a net energy exporter, which is helpful. The tailwinds should last for some time, unlike the headwinds, which should expire when the conflict with Iran ends. So, there’s no recession in sight.
The Fed must cope with this divergent outlook, which pulls in opposing directions, so it is likely to maintain an unchanged stance for monetary policy until a clearer direction can be ascertained.
Possible Political Outcomes in the Middle East
The political outlook for the Middle East also remains highly uncertain. Will there be regime change in Iran or will the government remain in power, either still managed by Islamists or by an unknown group that wishes to make peace with the West? These are dramatically different potential outcomes and any of them seems plausible right now. By attacking its neighbors, Iran has pushed most Middle East countries into alignment with the U.S. But even that may realign once Iran’s leadership becomes established. There are still many possible outcomes for the political scene in the Middle East.
“Stocks have sold off, except for energy and defense companies, which is understandable, since investors hate uncertainty.”
CIO & Co-founder, Dr. Charles Lieberman
Market Reactions and Positioning for Potential Reversal
Stocks have sold off, except for energy and defense companies, which is understandable, since investors hate uncertainty. Bond yields have increased, reflecting an expected rise in inflation. But these uncertainties and concerns are likely to dissipate once the war concludes. There are no certainties in life, (except for death and taxes), but it seems sensible to play for a reversal of what occurred this week, so a rebound in stock prices and a decline in bond yields. It is easy to imagine being early in implementing such a strategy, but it is also easy to imagine that a reversal could happen in the blink of an eye, so it would be easy to be late and miss it entirely. We have been concerned about these risks for some time and have allocated to defense stocks, energy and consumer staples. But we are, of course, reviewing our exposures and will try to position for the reversal, even if we do so cautiously.