GUEST BLOG / By James McCann, Senior Economist, Edward Jones Company
Key takeaways
--A ceasefire between the U.S., Iran, and Israel has sparked hopes for a durable de-escalation in this conflict, driving oil prices lower and triggering a sharp rebound in equity and bond markets.
--While volatility has eased, there may well be bumps ahead of the April 21 ceasefire deadline, with significant hurdles to overcome before a peace deal can be reached. Still, the willingness to de-escalate is an encouraging signal.
--The importance of finding an off-ramp for this conflict was highlighted by hotter inflation data last week, with the largest surge in prices in four years underlining the risks that an oil shock can pose to consumer spending and corporate margins.
--While the future is uncertain, we continue to think that political incentives are aligned to deliver a durable end to the conflict. A peace deal could shift attention away from oil risks and back to fundamentals around corporate earnings growth.
--These fundamentals, while bruised by surging oil prices, remain largely intact in our view, potentially setting the stage for renewed market progress if we see a resolution in the Iran conflict.
A fragile truce emerges
The two-week ceasefire between the U.S., Iran and Isreal provided a welcome de-escalation in a conflict that has shaken global markets. The relief rally after this announcement last week was sharp, with equities and bonds moving higher and oil prices down 15% on the news.
Chart description--The chart (above) shows that WTI oil prices surged to a peak of more than $110 per barrel during the Iran conflict, before falling back in a $90-100 range after a ceasefire was announced.
However, performance since has been more muted and oil prices remain elevated, as investors likely worry about the durability of the truce, especially amid Israeli military strikes on Lebanon last week and still very limited oil traffic through the Strait of Hormuz. Moreover, it remains to be seen if consensus toward a more permanent agreement can be found over the next fortnight on issues including nuclear security, traffic through the Strait of Hormuz, and security guarantees.
Therefore, while volatility has dropped back sharply in recent days, we are not necessarily out of the woods yet. There remains a risk of further market stress in the near term, especially as we approach the end of the current ceasefire on April 21. On Friday, President Trump warned that there will be renewed military strikes if talks fail.
Still, we interpret the willingness to engage in a mutual ceasefire, the start of direct negotiations, international support/pressure for a deal, and hopefully an improvement in transit through the Strait of Hormuz as positive signals around an eventual resolution in this conflict, even if the path might be bumpy.
Economic fallout builds
The economic case for de-escalation is growing, as we increasingly see the fallout from this conflict in the data. Last week showed that inflation pressures were already running uncomfortably hot ahead of the energy price shock emanating from the Middle East. The Fed's preferred measure of underlying inflation pressures, core personal consumption expenditures (core PCE), delivered another robust increase in February, adding to the strong gains seen in both January and December. This acceleration has pushed the three-month annualized increase in this important indicator up to over 4%.
Chart description-- The chart (above) breaks down the February PCE inflation report by its main components, pointing to an acceleration in core inflation pressures driven by higher goods prices over recent months.
In part this pick-up reflects the continued effect of higher tariffs, with inflation for goods up nearly 5% in three-month annualized terms as firms pass these costs through to consumers. We think tariff inflation should start to fade in coming months, but in the near term, this dynamic exacerbates the affordability squeeze taking hold.
This squeeze was well-illustrated by a surge in Consumer Price Index (CPI) inflation data for March. Headline inflation was up an alarming 0.9% over the month, the largest increase in four years as gas prices surged 21%. Over the past 40 years there have only been eight months in which inflation has risen this much, or higher, with five of these landing after the COVID-19 pandemic.
Chart description--The chart (above) shows the 0.9% month-over-month increase in U.S. March CPI was the largest seen since 2022 and among the biggest spikes over the past forty years.
Chart description--This chart shows that stocks fell sharply though the first weeks of March as the Iran conflict weighed on sentiment, before bottoming and rebounding in early April after a ceasefire was announced.
However, with headlines from the Middle East continuing to drive sentiment, we are likely to need to see further signs of progress in peace negotiations to build durable gains from here. As highlighted earlier, a stall or break in talks could see volatility spike higher again. For some investors any potential setbacks could present opportunities to add to strategic allocations to equities or rebalance portfolios.
Looking further ahead, while the path to an eventual agreement remains opaque, we continue to believe this is the most likely outcome. Importantly, a peace deal could set the stage for investors to shift their focus away from energy price risks and back to fundamentals around growth and corporate earnings.
We think these fundamentals, including broadening corporate profitability, tax cuts, lower interest rates and deregulation, should remain intact, although slightly bruised, by this crisis.
Outside of the energy sector, and parts of technology, we would expect earnings estimates in most sectors to be revised a little lower this year, consistent with the downgrades we are seeing in U.S. and international growth forecasts. However, despite these adjustments, we think economic and earnings growth is still likely to be firmly positive in 2026.
For the Fed, markets priced out expectations for multiple interest rates cuts this year during the peak of the Iran scare and even flirted with a chance that the central bank could hike. However, as oil prices moderate, we are seeing expectations for easing build again. We think there could be scope for the central bank to cut rates by the end of the year, depending on the path for oil prices and inflation.
Chart description--This chart shows that markets reined in expectations for multiple Fed rate cuts this year at the peak of the Iran conflict, but are now starting to price a renewed chance of easing.
The conflict in Iran has dominated the news cycle and market sentiment since March. In our view, however, if tail risks are fading, the market should continue to turn its attention back to the still supportive fundamentals that had been driving positive performance before this shock.
