Uncertainty and price volatility in the markets have persisted as conflicting information about the war in Iran has emerged from various parties. Investors face an additional challenge due to the correlation between investment assets, which is why traditional safe havens have not provided protection during market downturns.
Volatility in the investment markets has remained pronounced as the markets have struggled to price in the changing likelihoods of various war scenarios in Iran based on the latest news cycle. The news has been varied, and information from different sources has at times been highly contradictory.
A particular challenge for investors is that almost all asset classes currently correlate with each other, making it difficult to find effective ways to diversify. Since the outbreak of the war, the values of fixed income investments, precious metals and cryptocurrencies have all declined, like the equity markets. The US dollar, a traditional safe haven, strengthened at the start of the war, but since mid-March, it has also weakened moderately.
An exception to the broader trend can be found in the energy sector, where stock prices have risen. The technology sector has also seen some positive development, but in recent days, tech companies have likewise taken a downward turn.
At present, the investment markets appear to assume that the economic impacts of the war in Iran will remain limited and that some form of a solution will be found in the near term. However, statements from the USA and Iran regarding the progress of negotiations have been highly contradictory, and the parties seem to hold very differing views on the terms of a potential agreement.
A key question for the markets is how vessels will be able to pass through the Strait of Hormuz, which is particularly critical for energy transports. Another challenge for the markets has been the involvement of Yemen’s Houthi rebels in the conflict in support of Iran. The Houthis have for some time been seeking to disrupt maritime traffic in the Red Sea, through which a significant share of global maritime cargo passes. From the markets’ perspective, a negative scenario would be the closure of the shipping route through the Red Sea as well. In that case, all maritime traffic between Asia and Europe would be forced to reroute around the entire African continent, which is expected to drive up all freight costs worldwide. At the moment, however, this is merely a risk factor, and it is uncertain whether the Houthis are even capable of closing the route. Moreover, the Red Sea corridor is not nearly as critical for energy transport as the Strait of Hormuz.
At the beginning of the year, Europe and emerging markets in particular benefited from the rotation in the equity markets, while the USA, driven especially by the technology sector, saw more subdued performance. However, the war in Iran has unsettled especially the European equity markets, while the US tech sector has performed more steadily during the war.
Until the end of February, equity markets in the rest of the world outperformed the USA, and small caps performed better than large caps. This was largely due to the fact that large tech companies make up a significant portion of the entire US equity market, meaning their performance impacted both comparisons. In addition, both the US equity market and large-cap companies have experienced several years of overperformance.
Since the start of the war, the price-to-earnings (P/E) ratio in the USA has noticeably declined, as companies’ earnings have continued to grow but their stock prices have fallen. The US equity market, long considered expensive, is now relatively close to its historical average. A similar trend can also be seen in Europe and emerging markets, where P/E ratios have declined. At present, these markets are trading slightly below their historical averages.
Due to this development, valuation differences between different markets are no longer as pronounced as before. For example, the gap between the USA and Europe has narrowed since the beginning of the year.
In the bond market, concerns over the impact of AI on software companies weighed on prices in February, and the rise in interest rates has depressed returns on long-duration fixed income investments in particular. The valuation levels of European government bonds in particular have declined, even though they have traditionally served as a safe haven amid market turmoil. European investment grade bonds have also declined over a one-month horizon.
Meanwhile, shorter duration investments, such as US high yield bonds, have not declined as significantly, and the negative impacts on these investments have been more limited.
Nothing presented here is or should be taken as an investment recommendation or solicitation to subscribe for, buy or sell securities. When making investment decisions, the investor must carefully familiarise themselves with the information given on the financial instruments and understand the related risks. The investor must base their decision on their own assessment, goals and financial situation. Risk is always inherent in investment activities. The value of the investment instruments may increase or decrease. The past performance of investment instruments is no guarantee of future performance.
