What to watch
Although uncertainty surrounding the conflict remains , we continue to focus on assessing the length and scale of the energy crisis and what this means for global growth and inflation. Three key indicators we are monitoring:
- Oil and gas prices: While elevated, they remain below 2022 levels. Still, the higher they go and the longer they stay elevated, the greater potential impact on growth and inflation.
- Energy supply issues: Capacity constraints have led to lower production and refineries temporarily closing. Approximately 10% of global oil production — 10m barrels per day — had ceased by 12 March, according to the International Energy Agency (IEA). Unofficial reports suggest the outages may be as high as 15mbpd. It may take six months or more before Gulf oil and gas flows return to pre-war levels, according to the IEA. Attacks on infrastructure, such as that on Qatar’s South Pars LNG facility reportedly removed up to 17% of capacity for three to five years. The more damage to infrastructure, the larger the disruption and further reaching the impact.
- Responses: A) Strategic reserve release: An agreement has been reached by IEA member countries for the release of 400m barrels of oil from strategic reserves, the largest in history. We are monitoring whether further releases may occur. B) Political offramps: The two-week ceasefire brokered by Pakistan that was announced on 7 April is the clearest sign yet that the warring countries are willing to cease hostilities.
Positive UK equity returns
Despite the negative impact of the Middle East conflict and a 6.6% decline in March, the MSCI UK index ended the first quarter with solid returns of 2.9%. Energy stocks, which account for more than 10% of the index, have provided some support of late and the sector is up 35% for Q1.
Europe, as a net importer is sensitive to higher energy prices and the 8.7% monthly decline for the MSCI Europe ex UK pushed the Q1 return into negative territory (-2.1%). Energy independence and favourable sector weightings meant that the MSCI North America fared better in March, declining 3.2%. Still, for Q1 the US market lagged UK and Europe, falling 2.5%.
While the conflict is rightfully front and centre of investors’ minds at present, another big theme in recent months has been concerns around artificial intelligence (AI). February saw a succession of negative stock price reactions to AI threats, reaching a wide range of industries from software to transportation. It feels a long time ago now, but these concerns were sandwiched between more geopolitical risks in the form of US military activity in Venezuela and threats towards Greenland. For now, AI worries are on the back burner, but they could quickly return to the fore should the Middle East conflict de-escalate.
Gilts dip on inflation concerns
The recent rapid rise in energy prices has weighed on bonds, with derivatives markets now pricing in a year-end BoE base rate of over 4.25% — the current 3.75% rate had been expected to fall to 3.25% by the end of 2026 before the war broke out. This substantial change in expectations is seemingly due to renewed inflationary concerns and supported by recent comments from rate setters suggesting a higher future path. However, for investors the balance of risks has also shifted. 10-year gilt yields are now at almost 5%, their highest level since 2008.
Short-dated bonds have held up better of late, with gilts 0-5yr (-0.4%) barely negative whereas gilts 15yr+ (-4.1%) have had more sizable declines. Thus far the bond market reaction has been clearly focused on inflation but higher energy prices, should they persist, would be expected to weigh on growth which in turn would provide some support. This dual, opposing impact of energy crises has previously led to central bankers looking through shocks in the belief that the need to raise rates to curb higher inflation is roughly offset by the need to lower rates to support growth.
Conclusion
The war in the Middle East has provided a negative shock to financial markets, and the longer energy supply disruption persists, the greater the adverse effect will be on economic growth and inflation. That said, despite a challenging March and a seemingly continuous flow of negative headlines, global stocks ended the first quarter only marginally lower.
While a higher oil price is seen as negative for equities, there have been several prior periods when Brent crude has resided over US$100 per barrel and stocks have performed well. Whereas the tariff-led sell off in April 2025 was shorter and sharper, the recent price action has been more measured — possibly due to the belief that should a swift resolution occur then the risk can greatly decrease very quickly.
As investors, we can seek to manage risk in volatile and uncertain times through diversification. For instance, UK equities provided a positive return in Q1 as European and US stocks fell. Although gilt returns are negative through this period, the relatively high starting yield provides a cushion, and yields would have to rise significantly higher for investors to lose money by year end.
And although periods such as these are uncomfortable for investors, they are not unusual. 15 of the last 25 calendar years have seen the MSCI All Country World index experience an intra-year decline in excess of 10%. On only three occasions has the index ended the year down 10% or more. Volatility is the price of admission to receive the historically higher returns from equity markets.
Finally, there is yet to be an event — including World Wars, financial crises and pandemics — from which markets have not recovered. History shows that cutting through the noise, focusing on market fundamentals and sticking to an investment process and strategy clearly aligned with an investor’s risk profile and time horizon has proven to be the correct course of action. I believe that to be the case in today’s current crisis also.
