While Americans celebrate falling oil prices, the tenuous US-Iran peace agreement in the Persian Gulf remains the single largest risk for markets in the second half of the year, according to Oxford Economics chief global economist Ryan Sweet.
Since the US and Iran signed a memorandum of understanding (MOU) to end the war and, in theory, reopen the Strait of Hormuz, oil prices have plunged by more than 20%, and equities have rallied.
Futures on international benchmark Brent crude (BZ=F) now trade near $72 per barrel, while those on US WTI crude (CL=F) trade below $69 a barrel. Those prices have put renewed vigor into broadening strength in the equity trade.
Whether that momentum can be sustained — and how a range of risks play out — depends on the peace deal holding, Sweet argued.
“A peace deal that holds would produce a cascade of easing conditions: energy disinflation, central bank optionality, looser financial market conditions and relief for emerging markets,” Sweet wrote to clients on Monday. “However, an agreement without a follow-on peace deal would be volatile and impossible to sustain.”
Sweet and his team of economists see a range of concerns for the second half of the year from trade policy, AI supply chain risks, central bank decisions, China’s stimulus, and the US midterm elections — all of which are influenced by developments in the Middle East.
For example, if the deal breaks down, rising energy prices could push the Federal Reserve further toward rate hikes, especially with new Section 301 tariffs looking increasingly likely. At the same time, elevated energy prices could put pressure on import-heavy Asian economies, threatening the margins of some of the world’s leading AI component suppliers — a risk exacerbated by the prospect of further global rate hikes.
“All these risks are connected,” Sweet wrote. “The key question is how the peace deal in the Middle East unfolds.”
The deal staying in place would be positive for markets. Traffic both into and out of the Persian Gulf through the Strait of Hormuz has steadily increased since the signing of the MOU. The waterway recorded 108 successful transits across both inbound and outbound crossings over the Fourth of July weekend, according to data from intelligence firm Kpler.
That said, Sweet noted that the deal isn’t the only positive catalyst for the market. Stronger-than-anticipated strength in the artificial intelligence investment cycle would support the US and Asian markets. Infrastructure spending on data centers, utilities, and the Olympics “could have a bigger bang for the buck than what’s embedded in the forecast.”
But that doesn’t take away from the risk that a deal could fall through, Sweet said, especially as fighting in Lebanon, Iranian strikes on vessels in the Strait of Hormuz, and a renewed round of US airstrikes have already derailed post-signing conversations once before.
“Our subjective odds that a durable deal is reached are a coinflip,” Sweet wrote. “The ‘breaks’ scenario remains very much live.”