Introduction to the Conflict
The recent conflict between Team Israel/USA and Iran was expected to have a significant impact on the stock markets. However, contrary to expectations, the markets have not tumbled. In fact, the Dow Jones finished up 507 points, the S&P 500 went up 1.11%, and the tech-heavy Nasdaq added 1.43%. This raises the question: why haven’t stock markets gone down following the conflict?
Historical Context
In the past, conflicts in the Middle East would have triggered steep falls, oil price spikes, and widespread panic selling. But this time, the market reaction has been the opposite. According to AMP Deputy Chief Economist Diana Mousina, history shows that while markets do typically fall after major geopolitical events, they tend to recover relatively quickly. Mousina analyzed a century of data stretching back to World War I and found that while major geopolitical shocks trigger an average 8% decline in share markets in the short term, markets on average rebound by 14% within a year.
Market Reactions
Markets are becoming more accustomed to geopolitical shocks. As Peter Switzer wrote, the conflict has put a "rocket" up stocks. Investors are watching Iran’s response carefully, and the market’s relatively calm reaction may reflect a widespread expectation that escalation will remain limited. The concern is less about headlines and more about whether Iran is capable — or willing — to respond in a way that forces further retaliation.
Factors Contributing to the Market Reaction
Several factors contribute to the market reaction. Firstly, the world economy — particularly the US — is far less reliant on imported oil than it once was. America is self-sufficient in oil, which reduces the impact of oil price shocks. Secondly, the intensity of oil use has gone down over time, making the economy more protected from shocks to oil prices. Finally, central banks are unlikely to react hastily to short-term price shocks, and may even cut interest rates to support growth if global growth slows due to prolonged conflict.
Central Banks and Monetary Policy
Central banks often "look through" short-term price shocks when setting monetary policy. Higher oil prices don’t necessarily seep through into other parts of the inflation basket, and the central bank would probably be more mindful about trying to support growth through cutting interest rates rather than being worried about inflationary pressures of higher prices. This means that if global growth slows because of prolonged conflict, rate cuts — not hikes — may become more likely.
Conclusion
In conclusion, while geopolitical risks can move markets in the short term, the bigger driver remains global economic growth, inflation, and corporate earnings. The market reaction to the conflict between Team Israel/USA and Iran has been surprisingly calm, and investors are watching the situation carefully. However, for longer-term investors, the fundamentals of the economy remain intact, and that could be the real story. As Diana Mousina said, "Geopolitical risks do have a negative short-term impact on markets, but they do tend to be short-term. If you’re playing the long game, don’t get too concerned because usually markets do tend to recover from these geopolitical risks."
