By David Rogers
Geopolitical risk is high this weekend as the Iran war could escalate into a dangerous new phase that triggers a massive spike in the price of oil and gas and sharp falls in stock and bond markets.
To be fair, the risks are mostly binary but markets are by no means priced for worst-case scenarios.
In the best-case scenario, Iran capitulates before Trump’s Saturday’s deadline and the US President starts unwinding the massive build-up of US troops in the Middle East.
Oil could drop to about $US70 a barrel in that case, sending stock markets toward record highs.
But Iran could well stay on its current path of attacking Gulf states and choking the Strait of Hormuz.
News reports this week said the US sent a 15-point plan to Iran via Pakistan to resolve the conflict.
The plan reportedly included Iran dismantling its main nuclear sites, restricting missile stockpiles and reopening the Strait of Hormuz. In return, the US was said to offer sanctions relief.
However, Iran dismissed the proposal as “excessive” and instead outlined five conditions of its own, one of which is the recognition of its sovereignty over the Strait of Hormuz.
Iran said “non-hostile vessels” may transit the strait if they coordinate with Iranian authorities, but there remains huge uncertainty about the safety of commercial shipping.
There was also uncertainty whether any direct talks between the US and Iran were underway.
Of course, Trump could extend his deadline again but that would leave markets questioning their assumption that the war will be over soon.
Already the Iran war has caused the largest energy supply disruption in history, according to Goldman Sachs.
“While the economic and market impacts have so far remained relatively muted, the longer the conflict and the resulting chokehold on the Strait of Hormuz and global energy supply last, the less likely that will remain the case,” the US bank said.
This week Trump threatened to “unleash hell” if Iran doesn’t agree to a deal.
With the USS Tripoli amphibious assault ship and its 31st Marine Expeditionary Unit due to arrive in the Middle East on Friday, Trump may launch a ground invasion of Iran’s main oil export node – Kharg Island. That’s the scenario that fund managers are most worried about now.
Nearly 8,000 additional marines and sailors are moving into the theatre. The USS Boxer Amphibious Ready Group has arrived ahead of schedule with roughly 4,000 personnel, linking up with the USS Tripoli group bringing another 5,000 from Japan.
SPI Asset Management’s Stephen Innes says this is “force positioning, not force messaging.”
US control of Kharg Island may put a chokehold on Iran that eventually leads to the regime capitulating, but it’s unlikely to be that easy to achieve.
In the meantime, the energy supply risks associated with a US invasion could push crude oil toward $US150 a barrel and spark a 5 to 10 per cent fall in global stock markets.
Iran is reinforcing the island, moving additional troops and tightening air defences.
“You are not dealing with a diversified system, you are dealing with a choke point,” Innes says.
“And in markets, choke points are where endgames are decided.”
Markets would initially see a US move on Kharg as a supply disruption, spiking oil prices amid uncertainty about the 1.8 million barrels of oil a day that Iran is now shipping, plus the potential for unintended consequences in terms of potential Iranian strikes on Gulf energy infrastructure.
If and when the US can establish control of Kharg and the flow of oil is managed rather than destroyed, the narrative could shift, but it could bring the risk of further escalation by Iran.
Analysts were quick to see a “TACO” (Trump always chickens out) trade opportunity in markets this week when Trump extended Tuesday’s deadline.
Brent crude oil plunged from $US110 to $US92 a barrel, sparking a 2.5 per cent rise in Australia’s ASX 200 stock index. By Thursday, Brent was back up to $US98.50 yet stock markets held their ground.
Unlike the Liberation Day tariffs sell-off that led Trump to back down, it’s not as easy to walk away from the Iran war while the regime still has the capacity to hit Gulf states and effectively close the Strait of Hormuz unless its demands are met.
Matthew Haupt, lead portfolio manager on the $1.7bn WAM Leaders fund, sees no point in dumping stock portfolios because of headline risk on the Iran war.
His funds bought oil stocks like Woodside while also trading oil futures to boost returns.
“Dealing with Trump, it’s really like, how can you predict him?” he said.
“Actually, you can predict him. He eventually does fold if it hurts him too hard.”
But he agrees the Iran war is different from the tariff dispute because it involves the other side too.
“The pain has been felt globally. It’s disrupting Europe, Asia. Any country that’s a net importer of energy is absolutely copping it,” he said.
In a pointed assessment of the economic and markets risk from the war, RBA assistant governor Chris Kent told a KangaNews Summit in Sydney that: “the longer the conflict persists, the larger the economic impact will be, and the greater the risk of a material repricing of assets.”
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