Media365
Investors are betting on a diplomatic solution to end the US-Israel war on Iran, even after peace talks fell apart over the weekend.
Initial fears about an escalation of the war after the US naval blockade of the Strait of Hormuz quickly faded, with US equities staging a dramatic comeback on Monday, erasing nearly all of the losses incurred by the S&P 500 index since the start of the conflict. Asian stocks followed suit on Tuesday, with key equity benchmarks from Japan to Hong Kong rebounding to almost recover all of the ground lost over the past month.
The cost of escalating the war could be higher – both politically and economically – for US President Donald Trump. The oil shock has already fuelled inflation expectations, which may prompt the Federal Reserve to tighten monetary policy, increasing the fiscal strain on Washington by increasing interest payments on the US$39 trillion in debt.
“Investors are beginning to price [in] a president who is now cornered,” said Gary Dugan, CEO of The Global CIO Office. “The argument goes that the political and diplomatic costs of the Hormuz blockade are accumulating faster than anticipated. Nato allies have declined to endorse the action, and a leader facing that degree of isolation has fewer, not more, degrees of freedom to escalate further.”
The oil crisis has already worked its way into US inflation. Consumer prices rose 3.3 per cent in March year on year, the fastest pace in nearly two years, driven by items directly linked to crude, such as petrol and airline fares. A flare-up in inflation would boost risk premiums and suppress valuations of US stocks, which investors said remained a critical scorecard for Trump.
