NEW YORK, June 21 (Reuters) - Investors are closely examining a variety of market scenarios as the U.S. considers deepening its involvement in the ongoing Middle East conflict. With the potential for significant ripple effects, particularly if energy prices surge, the financial landscape could change dramatically. The focus is currently on the escalating tensions between Israel and Iran, where both nations have engaged in missile exchanges. Market participants are particularly attentive to the possibility of the U.S. joining Israel in its bombing campaign.
As analysts ponder the implications of U.S. engagement, various potential scenarios emerge. Should the U.S. decide to intervene, it could lead to higher inflation rates, which may dampen consumer confidence and reduce the likelihood of near-term interest rate cuts. Art Hogan, chief market strategist at B Riley Wealth, indicated that an immediate selloff in equities could occur, along with a potential safe-haven bid for the dollar. Hogan noted, “If attacks were to disrupt Iranian oil supply, that's when the market is going to sit up and take notice.” He emphasized that disruptions to the global oil supply could lead to a negative response from the market, particularly as current pricing does not account for such events.
The White House announced that President Donald Trump will make a decision regarding U.S. involvement in the conflict within the next two weeks. Analysts at Oxford Economics have modeled three distinct scenarios: a de-escalation of tensions, a complete halt in Iranian oil production, and the closure of the Strait of Hormuz. Each scenario presents increasingly severe consequences for global oil prices. In the most severe projection, global oil prices could soar to approximately $130 per barrel, pushing U.S. inflation rates close to 6% by the end of this year. Oxford notes that while price shocks could suppress consumer spending due to decreased real incomes, the magnitude of inflation concerns would likely eliminate any chance of interest rate cuts this year.
The most pronounced market impact from the escalating conflict has been observed in the oil sector, with prices surging amid fears that the Iran-Israel conflict could disrupt supplies. Since June 10, Brent crude futures have surged by as much as 18%, reaching a nearly five-month high of $79.04 on Thursday. Investor expectations for volatility in oil prices have increased significantly, outpacing similar expectations in other major asset classes, including stocks and bonds. Analysts have suggested that while equities have largely ignored geopolitical tensions, these factors are being factored into oil pricing. Citigroup analysts stated, “To us, the key for equities from here will come from energy commodity pricing.”
Despite rising tensions in the Middle East, U.S. stocks have shown resilience, with little indication of panic among investors. However, increased U.S. involvement in the conflict could unsettle markets. Economists warn that a military strike against Iran could trigger an initial selloff in equities, particularly if oil prices spike dramatically, further straining a global economy already impacted by Trump's tariffs. Nonetheless, historical trends indicate that any pullback in equity markets may be short-lived. In previous instances of heightened Middle East tensions, such as the 2003 Iraq invasion and the 2019 attacks on Saudi oil facilities, stocks initially fell but soon rebounded to higher levels. According to data from Wedbush Securities and CapIQ Pro, the S&P 500 typically dipped by 0.3% in the three weeks following the onset of conflict but showed an average increase of 2.3% two months later.
An escalation of the conflict could have varying implications for the U.S. dollar, which has weakened this year amid concerns over diminishing U.S. exceptionalism. In the case of direct U.S. engagement in the Iran-Israel War, analysts suggest that the dollar might initially benefit from a safety bid. Traders may prioritize concerns about the potential erosion of trade terms for Europe, the U.K., and Japan over the economic shock to the U.S., a significant oil producer. However, Thierry Wizman, Global FX & Rates Strategist at Macquarie Group, cautioned that long-term prospects for U.S.-led nation-building efforts could undermine the dollar. He recalled that following the 9/11 attacks and during the subsequent U.S. military presence in Afghanistan and Iraq, the dollar experienced a decline.
Reporting by Saqib Iqbal Ahmed and Lewis Krauskopf; editing by Megan Davies and Diane Craft.
