Markets too complacent with inflation risks as oil price surges on Israel-Iran conflict

Israel and Iran are on the precipice of all-out war, yet markets aren’t factoring in the likely shockwaves on oil supply and renewed inflation risks, fund managers say.

Tehran residents survey damage caused by Israeli air strikes on Friday. Picture: Getty Images

Fund managers say the sharemarket is dangerously complacent with its glass half-full mindset, and unfounded optimism is no protection from the risk of oil supply shocks and an inflationary nightmare.

The S&P/ASX 200 Index ended Friday’s session down 0.2 per cent at 8547.4 points after Israel launched strikes on Iranian military and nuclear sites. Energy stocks and gold miners rallied as tensions grew between the two countries.

GSFM investment strategist Stephen Miller said the local sharemarket’s broadly muted response to the threat of a broader war in the Middle East reflected the complacency now present in risk markets.

GSFM investment strategist Stephen Miller.

“I expect what could happen is that we get a very big increase in oil prices and that will reignite concerns about inflation, which will then constrain how far bond yields can fall,” Mr Miller said.

“It will mean that equity markets will wobble – probably significantly from here – because they’re getting into fairly expensive valuation territory already.”

Brent and WTI crude oil futures rose over 13 per cent to $US78.50 and $US77.50 a barrel as Middle East tensions rocketed before easing slightly to be up about 7.5 per cent.

Australia’s energy majors rose in response to the spike in oil prices. Woodside Energy gained 7.4 per cent to $25.21, Santos 3.7 per cent to $6.96 and Beach Energy 2.77 per cent to $1.30.

Elsewhere, gold miner Northern Star surged more than 5 per cent to $22.53 and peer Evolution Mining gained 5.5 per cent to $9.20 as investors sought safety.

Mr Miller expected gold to once again rise to the fore as investors’ risk appetite diminished.

“It depends on how Iran retaliates and the extent of retaliation. Given where bond yields have been, given where inflation could go, risk markets are arguably complacent and what we should be looking for are investments that aren’t correlated with either equity returns or bond returns,” he said.

Gold prices jumped more than 1 per cent to trade just below all-time highs above $US3440 an ounce.

Although the local sharemarket finished only slightly in negative territory, US futures were deeper in the red over fears Iran could disrupt global oil supplies as part of its retaliation against Israel: S&P 500 futures were down 1.4 per cent, the Dow was pointing to a 1.3 per cent decline and the Nasdaq was negative 1.5 per cent.

Investors Mutual portfolio manager Daniel Moore said there was “definitely” complacency in the market as investors continue to adopt a glass-half-full mindset.

Investors Mutual portfolio manager Daniel Moore. Picture: Ryan Osland

“Generally war’s not bad for markets, it can lead to a spurring of economic activity. But if there are big oil price spikes that can be a different story due to the inflationary impact,” he said.

TenCap chief executive Jason Todd said the tepid response from the local sharemarket reflected how investors have dealt with similar geopolitical risks over the past number of years.

“Broadly speaking, it’s not a massive rotation out of cyclicals and into defensive areas. At the margin there’s a little bit of defensive rotation but if we look at the broader Australian market, it’s holding up pretty well,” Mr Todd told The Australian.

TenCap chief executive Jason Todd.

“I would say what’s going on is there’s a lack of transparency around how broad the response might become, or what the likely retaliation is.

“Without having a clear indication, we implicitly quickly price that into the oil markets. But the market’s almost just saying, ‘well, it doesn’t really change the backdrop in any way’.”

But he also said that the spike in oil prices raised questions about the inflation outlook.

SG Hiscock portfolio manager Hamish Tadgell said the attack on Iran and potential retaliation raised risks around oil prices as well as global supply shocks and disruptions.

“Clearly it’s a risk-off event … banks are down a bit, technology stocks are down a bit more and Qantas is off 5 per cent. The real question is what’s the risk of retaliation and contagion more broadly in the Middle East,” Mr Tadgell said.

“The market may also start to worry about the contagion effect through the Middle East, what might happen to some of the shipping routes, like the Strait of Hormuz, which is pretty important in terms of global trade and transport.”

The Strait of Hormuz is one of the world’s most important shipping routes, accounting for 20 per cent of global oil supply.

Originally published as Markets too complacent with inflation risks as oil price surges on Israel-Iran conflict