Weighing the impact on financial markets from CMS Prime

Weighing the impact on financial markets from CMS Prime

Never one to shy away from a fight President Trump tweeted on May 19 that, 'If Iran wants to fight, that will be the official end of Iran. Never threaten the United States again!'

You can read the tweet in the image above. President Trump has now placed sanctions on both Iranian metals and Iranian Oil. Furthermore, on May 24 the Pentagon sent 1500 troops, drones, and fighter jets into the Middle East in order to counter any potential Iranian authorized attacks on US personnel.

At the present, the USS Arlington, USS Abraham Lincoln carrier strike group, the U.S Air Force bomber task force and a Patriot missile defense battery have all been sent to the region.

However, the acting U.S Secretary of Defense Patrick Shanahan said on Wednesday 29 May that, 'when the president says he doesn't want a war with Iran, I think that is pretty clear.' This was confirmed by President's trump comments that he was ready to 'talk' to Iranian leaders and was not seeking regime change.

Speaking in Switzerland at the start of this month the US Secretary of State, Mike Pompeo, said that the Trump administration was ready to negotiate with the country's clerical leaders, with no 'preconditions'. The situation, however, is precarious and a miscalculation from either country could easily lead to a breakout into an open war.

In the event of that sad situation, this article will consider the impact on some of the key financial markets.

FX Safe haven bids into the JPY and CHF

There would be an instant bid into safe haven currencies. Even though both the Swiss National Bank and the Bank of Japan have negative interest rates, their currencies are considered to be the safest currencies to buy in the result of a crisis.

The JPY and the CHF would be bought on risk off flows. The AUDJPY pair would be particularly badly hit as a good pair to sell on risk off sentiment. It is debatable what would happen with the USD, since an Iranian war would put further brakes on global growth and make the Federal Reserve's next move a rate cut, rather than a rate hike. However, it is most likely the USD would revert to its recent safe haven status.

Major moves in the commodities markets

US Oil would face two pressures: falling supply and a slowdown in global growth. The potential supply cut with Iranian Oil being even harder to get to market would result in potential bids in oil.

However, that would be overshadowed by the concerns that a US-Iran war would lead to even more global growth pressures and that would bring US Oi down in value.

Gold should find bids on an outbreak of a US-Iranian war with it's safe-haven status. The extent of those bids would depend on the perceived severity of the conflict and the length of it. Iron Ore and Copper prices should fall as slower global growth prospects would weigh on their demand levels.

US stocks to fall in the near-term

Fighting a war on two fronts is always hard, but that is exactly what President Trump is doing at present with tariffs being placed on Mexico and China. In fact, President Trump is also fighting a trade war on European car imports as well, even though the tariffs on EU imported cars are on hold...for now.

If President Trump then starts a physical war against Iran this will only add further to trade uncertainty, which capital markets do not like. In the present climate this is most likely to be another factor on slowing global growth.

The US and China between them constitute 40% of the world's global GDP. With Chinese manufacturing PMI's declining in recent months, when a US-Iranian war is added to that event, there will be a further drag on global growth.

This would drag down not only the US indices but also indices around the world. The stocks likely to find support in such times would be the traditional defensive stocks for companies which provide essentials like food products and energy supplies.

US bonds to attract fixed return investors

US bonds would become attractive to investors as they would seek the security of fixed bond returns in an uncertain landscape. In fact, the more secure Government Bonds around the world, Gilts and Bunds for example, would find similar bids as investors across the globe look to exit the riskier asset classes in favor of fixed returns.

The impact of a US-Iran war would also depend on the length and extent of it

As sad as all wars are, they are not all created equally. For example, a 'flash-war' would have a much more limited impact in the financial markets than a long, protracted war.

Where a war involves regime change, or attempted regime change, the impact can last for decades after the official war 'ends' as whole regions are stuck in a cycle of insecurity. This was seen in some of the Arab spring uprisings which destabilized regions, as well as toppling rulers in recent months.

On a separate, but related note, the impact of a nuclear US-Iranian war would also be profound and it is hard to see a scenario which wouldn't weigh seriously on risk sentiment and global growth prospects.

The use of a nuclear weapon on US soil would result in immediate retaliation and a more pronounced flight from riskier investments to a defensive portfolio, as well as a fall out difficult to forecast in advance as other countries responded to the crisis.

In conclusion, although a US-Iranian war is thought unlikely to occur at present, this article has considered some of the major impacts that such an event would have on the financial markets. The extent of the impact, would in turn depend on the extent and severity of any war.

A war will lead to movement away from riskier assets to more fixed return assets as well as traditional safe havens as discussed above.

This article was submitted by CMS Prime.