Geopolitical risk and the global market outlook

The latest escalation of hostilities in the Middle East, ongoing war in Ukraine and simmering tensions elsewhere in the world have put geopolitics squarely at the forefront of investor thinking.

These conflicts – and potential conflicts – involve enormous human suffering; our thoughts are with everyone affected. Where they affect the assets we manage, we focus on managing risk to achieve our clients’ long-term objectives.

Our approach to geopolitical risk in general is summarised by the motto: 'prepare, don’t predict'. This means we undertake rigorous scenario planning, rather than seek to forecast imponderable outcomes.

Vulnerable markets

This post reflects our thinking on this theme, which we have shared with our clients both in the wake of Russia’s invasion of Ukraine and since the events of October 7, 2023.

Many investors appear to have taken the latest flashpoint in their stride. This has involved Iran and Israel engaging in direct confrontation of a nature unprecedented in their history.

The situation is clearly complex and fast-moving; we continue to monitor it closely. The extent to which these developments might affect our clients’ investments depends to a large extent on how they impact the outlook for global growth and inflation.

While markets are pricing in fewer interest rate cuts over the course of this year than previously anticipated, valuations still indicate something of a ‘Goldilocks’ scenario in which growth is resilient and inflation continues to moderate.

Such optimism makes markets vulnerable to shocks, in our view, whether from geopolitical strife, national politics or macroeconomic data.

Reducing risk

Should the situation in the Middle East deteriorate further, we believe the direct impact on global growth would likely be limited, due to the relatively small size of the economies of countries in the region.

However, fresh hostilities could stoke a spike in oil prices and disrupt trade routes, with knock-on effects for inflation and monetary policy. This would likely impact companies, consumers and risk assets worldwide through higher energy prices and the cost of debt.

It’s worth noting that our clients’ exposure to Israeli assets is minimal, while sanctions make Iranian assets essentially uninvestable.

More broadly, in light of the narrow path for the global economy that investors are pricing, the interconnectedness of markets and the broad range of both political and geopolitical risks on the horizon, we anticipate further volatility.

Given this backdrop, we are positioning defensively within our multi-asset portfolios. We have also reduced credit risk within our active fixed income strategies.

Uncertainty and change

Looking beyond the current geopolitical fault lines – and even the market-moving political events scheduled later this year – we believe uncertainty and change are probably the only two constants investors can expect. That’s because we’re all adjusting to a multi-polar world, during a period of frenetic technological advances.

This makes diversification[1] more important than ever, in our view, to help withstand a range of economic scenarios – and mitigate the impact of any single market event.

 

[1] It should be noted that diversification is no guarantee against a loss in a declining market.