Asset Classes Shift In Week 4 of Iran Conflict

Equities and bonds were mixed for the first time in 4 weeks as Middle East tensions rage on. Short-term bonds inched higher last week, while longer-term bonds dropped

for the 4th consecutive week. Small cap, mid-cap, and international stocks out-performed large cap stocks for the first time since the Iranian conflict began. It's possible markets are feeling fatigue with the back-and-forth between ceasefire and "no negotiations." Over the past 18 trading days since the conflict began, oil and equities have moved in nearly opposite directions on a daily basis. Just when investors think the worst is over with a ceasefire headline, tensions renew and losses in equities reaffirm the worst is not yet over. However, despite the panicans in the media, oil really hasn't spent many days above $100/barrel, compared to other periods in recent history.

The timing and exact outcome of the current conflict in the Middle East is ultimately unknown. Those that say they know where equities are headed or where oil is headed

are guessing at best. Iran had stated publicly for years that they were only capable of firing missiles 1,240 miles, but just 9 days ago, fired missiles with a range of at least 2,500 miles. When Iran has said they were not willing to negotiate, Pakistan, Oman, & Qatar publicly stated they were serving as mediators between the U.S. and Iran. Saudi Arabia, Turkey, & Egypt are discussing assisting ships in the Strait of Hormuz. In Iran, President Pezeshkian has clashed with the IRGC and believes continued tensions with the U.S. could cripple Iran. With all this as a background, Goldman Sachs has published their scenarios for a 6-week and 10-week oil disruption. While these are only scenarios, the laughable part is the symmetrical dotted lines resulting from the projections. Even Goldman Sachs cannot predict the exact path and movement of a security or asset class.

The market has seen one of the largest shifts in Fed rate expectations in the last twenty years. The market has completely priced out two Fed rate cuts that were a given just

over a month ago and is now pricing in at least one rate hike in 2026. This has caused the yield on the 2-year Treasury to rise 62 basis points since the Iranian conflict started. This is based solely on the price of oil having risen 39% over the past few weeks and the prospect of a prolonged conflict that could spell even higher oil prices for an extended period of time. A rise in inflation due to high gas prices for the consumer is the reason for the change from expected Fed rate cuts to rate hikes. However, if the 4 to 6 week period stated by the White House were to become reality, it's likely that oil would fall down close to it's pre-conflict level, helping equities to return on a path toward pre-conflict levels. Waiting in the wings are pension funds, who will begin their quarterly rebalance soon and would be considerable buyers of equities near or around quarter-end. A drop in oil could also take Fed fears off the table as any inflation shock could be limited to one or two months.

The economic picture not only looks solid, but certain areas that have been struggling are looking better. Both national and regional manufacturing indices are showing year-

over-year growth. The S&P and ISM manufacturing indices, which were showing slight contraction one year ago, are now at expansionary levels. Regional indices that were in negative territory are now flat or positive. The NFIB Small Business Optimism Index, "main street's" version of economic pain points, has risen over the last 12 months and remains above it's historical average, indicating that main street feels relatively stable despite the uncertainty around private credit and the Iranian conflict. Expect more intra-day volatility in trading as headlines about ceasefires, negotiations, and tensions waver from day-to-day.

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