Risk appetite: how the conflict in the Middle East affects the commodity and stock markets

The armed conflict in the Middle East has provoked an increase in fuel market prices. The price of Brent crude oil increased by 13%. The Russian stock market reacted to the price fluctuations, opening the new month with an increase of 1.1%. How a new round of rising energy prices will affect the global economy is in the Izvestia article.

Cause and effect

On Saturday, February 28, the United States and Israel launched a large-scale military operation against Iran. It is claimed that its goal is to prevent Tehran from obtaining nuclear weapons. At the same time, US President Donald Trump announced his intention to destroy the Iranian navy and defense industry, calling on the country's citizens to overthrow the current regime.

The current situation has caused problems with the transportation of oil through the Strait of Hormuz, considered the most important energy artery in the world. About 20% of the world's oil passes through it.

Iranian Foreign Minister Abbas Araqchi, commenting on the situation, claimed that there were no plans to close the strait, but ships began to receive warnings about the insecurity of this route. Later, on March 1, Iran nevertheless announced the cessation of trade through the waterway, which led to a congestion of ships. According to Reuters, at least 150 oil tankers were forced to anchor in open waters before reaching the strait.

Iranian Foreign Minister Abbas Araqchi

Photo: TASS/EPA/ABEDIN TAHERKENAREH

All this naturally led to an increase in oil prices. There are no trades on the ICE Futures exchange over the weekend, so the market reacted to the events only on Monday, March 2. The price of May futures for Brent crude oil rose by more than 13%. At its peak, it reached $82.37 per barrel. Later, the price of energy was adjusted to $79.

In turn, the rise in oil prices has led to changes in the Russian stock market. It opened the month with a 1.1% increase, according to data from the Moscow Stock Exchange. In particular, the Moscow Exchange index with an additional code (iMOEX2) grew by 1.14% to 2,831.06 points as of 07:01 Moscow time.

By 10:01 a.m., the trading floor index was 2,822.53 points (+0.8%), the RTS index was 1,150.66 points (+0.8%). Shares of oil, gas and gold mining companies also rose.

Dangerous situation

The closure of the Strait of Hormuz was Iran's response to the aggressive actions of the United States and Israel, confirms Sergey Chuev, Head of the Department of State and Municipal Management at the State University of Management. And the actual stopping of tanker traffic through the strait is a much more serious factor than military operations in the Middle East region, emphasizes Vladimir Demidov, head of the Future Energy Laboratory at the Skolkovo Moscow School of Management. Tens of millions of barrels of oil and petroleum products pass through this artery every day.

— The lockdown creates a physical shortage of supply, despite the availability of stocks from importing countries. This adds a record premium to the price of each barrel, and until the strait is unblocked, prices will fluctuate in a high range.

OPEC has already responded to the closure of the Strait of Hormuz. The organization has increased oil production quotas, Chuev draws attention to. OPEC+ has decided to increase production by 206,000 bpd since April, Demidov said. This signals to the market that manufacturers intend to cool the hype and compensate for possible supply disruptions from the Persian Gulf. And theoretically, the cartel, thanks to its policy of curbing production, can keep oil prices volatile.

Photo: REUTERS/Stringer/File Photo

— But this will not help if the conflict continues for a long period. In this case, the price of oil may reach either $ 100 or $ 150 per barrel," Chuev admits.

Demidov also does not rule out a jump to $100 and above. However, to sustain this level, he said, not only military action is needed, but also the actual destruction of infrastructure or a prolonged halt in exports.

"So far, the market has played back the news, returning to the price of $79, but the risk of a new wave of growth remains," the source said.

Winners and losers

The increase in energy prices will have a positive effect on the Russian economy, says Sergey Chuev. Russia has been diversifying its sources of income recently, but oil revenues still make up a significant portion of the budget.

However, it should be borne in mind that rising fuel prices may lead to increased inflationary pressures within Russia, warns Vladimir Demidov. If inflation expectations start to rise again, it will be more difficult for the Central Bank to continue the key rate reduction cycle.

At the same time, a prolonged hold in oil prices above $90-100 per barrel can trigger a global economic downturn, the expert admits.

Photo: RIA Novosti/Maxim Blinov

— Expensive oil hits consumer demand and increases business costs, which has already led to a drop in stock indexes in Asia, Europe and the United States. If the crisis drags on, the high cost of energy will slow down the economic recovery, which could lead to a full—scale recession, he warns.

First of all, European countries may face a recession because they do not have their own oil sources, Chuev said.

— The U.S. economy will receive bonuses because they have access to Venezuelan oil. And Russia will receive an impetus for development. China will be the loser, as it is tied to the supply of oil from the Persian Gulf. But Russia can more than compensate for this shortcoming, just like India," the Izvestia interlocutor expects.

Risk premium

The logic of the movement on the stock market in Russia against the background of current events is quite understandable, says investment adviser to the registry of the Central Bank, founder of the online investment university "Financology" Yulia Kuznetsova. Oil remains one of the key factors for the domestic economy, and a sharp increase in its cost automatically improves expectations for companies' revenue and budget revenues.

By itself, the growth of the stock market by 1-1.5% is not a signal of the beginning of a long-term rally, warns the interlocutor of Izvestia. It is rather a quick reaction to an external shock and the closing of short positions.

— To talk about a trend reversal, the market needs consolidation above strong technical levels, oil stability in the zone of more than $80 and confirmation of volumes. So far, we see momentum, but not a change in structure. Geopolitics creates volatility, not the foundation," the expert explains.

And this impulse looks more like a reactionary rebound than a signal for a long-term rally, confirms Yaroslav Kabakov, Director of Strategy at Finam IC and lecturer at the Higher School of Business at the National Research University Higher School of Economics.

"Russian stocks are traditionally sensitive to oil, but a steady upward trend is formed not on a geopolitical shock, but on fundamental factors — the dynamics of company profits, budget conditions, monetary policy and the stability of the external background," he lists.

The current rise in oil prices is primarily caused by the risk premium, rather than a structural shortage of supply, so it is premature to talk about the beginning of a new cycle, the expert emphasizes.

However, global instability is unlikely to outweigh the local positive from expensive oil, Kuznetsova expects.

— Historically, at times of military escalation, the "risk aversion" mode is activated: the dollar and defensive assets are growing, and emerging markets are becoming more volatile. It is already clear that the ruble is not strengthening in proportion to the growth of oil, which means that market participants are placing an increased risk premium," the investment adviser clarifies.

During periods of sharp escalation, investors turn to defensive assets, Kabakov agrees. At the same time, developing country markets remain under pressure even with high commodity prices.

Kuznetsova sees the current picture as a balance of two forces. The situation is influenced by the support from raw materials and the pressure of global risk-off. If the conflict remains local, the Russian stock market may continue to move up after oil. But if the escalation expands, volatility will increase, and the current short-term positive will quickly give way to caution.

— In addition, sharp jumps in Brent are often accompanied by equally rapid corrections as soon as fears are partially embedded in the price. As a result, the current dynamics of iMOEX2 looks more like a short—term reaction to a shock than the beginning of a sustained multi-month rally: expensive oil supports the market, but in conditions of global instability it does not guarantee a trend change," Kabakov summarizes.