The Iran Conflict: Signal Through the Noise
- David Wrigley, CFA®, CAIA®
- Mar 5
- 7 min read
Overview:
War is never easy to write about given the human toll and the rippling fear and uncertainty it creates. But it's our responsibility to cut through the noise, assess what we know, and provide a balanced view of what this geopolitical conflict means for the economy and portfolios.
On February 28th, the U.S. and Israel launched coordinated military strikes against Iran, targeting regime leadership, nuclear facilities, and military infrastructure. Iran's Supreme Leader was killed in the initial wave. Tehran responded with retaliatory missile and drone strikes across the Middle East, hitting targets in Israel and striking U.S. military bases and embassies throughout the Gulf. Most critically, the effective closure of the Strait of Hormuz has introduced an energy supply shock that extends well beyond the conflict itself.
The timeline for resolution remains unknown. There are clear economic implications regarding higher energy prices, rising inflation expectations, and potential pressure on consumer spending. Markets are recalibrating in real time, with volatility picking up across stocks, bonds, and the energy complex.
Diversify’s Take:
Rising Energy Prices:
Following the weekend strikes, oil futures jumped from the mid-$60s to the mid-$70s per barrel, and the price continues to climb. At the time of this writing, WTI and Brent stand at $79.50 and $84.50, respectively. As a result, the average price of gasoline at the pump in the U.S. is now $3.25, up $0.27 this week. As AAA shows below, while today’s gas price is clearly higher than 2025, it remains below the 2023 and 2024 levels.¹
The energy supply picture is more concerning than the spiking price alone may suggest. This conflict’s most consequential economic development has been the effective closure of the Strait of Hormuz, the strategic chokepoint through which ~20% of the world’s oil and liquified natural gas (LNG) supply is transported. Iran declared the strait shut and has threatened any vessel attempting passage. Insurance providers withdrew coverage for tankers transporting oil through the strait, and transport companies halted all movement through that area. While alternative routes exist, they can only accommodate a fraction of the volume that typically flows through the strait.
If this becomes a prolonged conflict, oil could be rangebound in the $80-100 per barrel range. Should the war devolve into targeting energy infrastructure in the Gulf, the tail risk of oil above $100 could come into play. On the supply side, OPEC offered some production support for an incremental 200k barrels/day. But incremental production doesn’t do much if tens of millions of barrels can't be transported. On the demand side, if higher energy prices are sustained, it directly eats into discretionary spending. At some point, demand destruction would kick in (“the cure for high prices is high prices”).
As a reminder, unlike many countries, the U.S. is in the extremely enviable position of being energy independent. We have become a net exporter of energy. As Bloomberg shows below, Asia is by far the most dependent on Middle East oil and LNG and will likely bear the greatest economic impact.² China, India, Japan, and Korea are all major importers of oil passing through the strait. Though China began aggressively building its strategic oil reserves in 2025, they may only have several months of supply on hand.
Economic Implications and the Fed’s Dilemma:
With higher energy prices, the Federal Reserve’s (Fed) balancing act of accomplishing its dual mandate (price stability and full employment) just became even more difficult. While the Fed’s focus is on “core” inflation, which strips out the volatile components of food and energy, if the conflict persists for months, energy inflation will naturally bleed into the price of other goods and services. Even outside of this conflict, our view has remained that we’re in a 2.5-3.5% inflationary environment for the foreseeable future.
Higher oil prices function as a stealth tax on the consumer. Since consumption drives two-thirds of the U.S. economy, it’s a direct hit to disposable income. Goldman Sachs estimates that for every sustained $10/barrel price increase, GDP growth slows by 10-20bps. So, compared to prior expectations of U.S. real GDP growth of +2.0% in 2026, if oil prices sustain escalated levels in the mid-$80s, economic output could track closer to +1.7%. For perspective, oil peaked at $114 in May 2022 during Russia's invasion of Ukraine. That spike contributed to a modest global growth slowdown but didn't trigger a recession. Today's price levels are well below that threshold.
One Fed cut has already been priced out of the market since last weekend. It is widely expected that the Fed will hold rates steady in the March and April FOMC meetings and await Fed Chair nominee Kevin Warsh to take the reins for his first meeting in June. The fed funds futures market is now assigning a 66% probability that the Fed will keep the policy rate at 3.50-3.75% in the June meeting. One week ago, that probability was a coin flip. Now, the market is pricing in just one 25bps cut for 2026 in the July meeting, with another potential cut in March 2027.
Potential Resolution Timelines:
While we’re not policy experts, we’ve been thinking through the most likely resolution timelines as follows:
Swift Resolution (Unlikely): The odds of a near-term deescalation are fading. The U.S. and Israel have signaled they may strike deeper into Iran, and Tehran is now lashing out at U.S. allies across the region. However, Iran's leadership vacuum could create an opening for negotiations that weren’t previously on the table.
Several Weeks (Most Likely): The White House has messaged a four-week resolution timeline as their base case. From a political angle, given the looming midterm elections and the administration’s central focus on affordability, that may motivate the President to expedite deal-making or a deescalation with Iran. Spiking energy prices and falling consumer confidence would hand opponents easy talking points at an inopportune time.
Long-Term Entrenchment (Possible but Unlikely): This is the entrenchment scenario that nobody wants. This week, Defense Secretary Hegseth reaffirmed the administration's posture: "This is not Iraq…this is not endless."
Investment Implications:
Fixed Income:
Since the initial strikes, the U.S. dollar has strengthened ~2% as a classic flight to safety, coupled with the view that potential Fed cuts are less likely due to commodity inflation. As a result, yields at the front-end of the curve have shifted ~20bps higher. The 2-year Treasury yield now stands at 3.60%.
For intermediate-term Treasuries, the market is weighing two competing forces: their safe-haven attributes, which would push bond prices up and yields down, versus the uptick in inflation expectations from surging energy prices. For now, higher inflation expectations are winning the debate. The 10-year Treasury yield has climbed ~20bps this week to 4.15%, roughly where it began the year.
Despite the recent rise in yields, bonds are broadly outperforming stocks YTD. Periods like this reinforce the importance of rebalancing back to strategic equity/fixed income target weights. Consistent with our view that inflation isn't whipped, we continue to favor lower overall duration (interest rate sensitivity) relative to the aggregate bond index. Our strong preference on structure remains owning individual, high-quality laddered bonds. This approach matches maturities with planned cash flows and partially insulates holdings from fluctuating interest rates due to the natural investment cycle.
Equity:
While the S&P 500's reaction has been muted overall, the market is clearly on edge as it sorts through the near- and intermediate-term implications of the conflict. Daily swings of 1% in either direction have become the norm this week. It has been a fierce match of ping pong. As a reflection of this volatility, the VIX sits at an elevated 23 but remains below panic levels. International markets, especially in Asia, have seen more selling pressure.
Historically, most geopolitical events create short bursts of volatility before the market resumes its focus on fundamentals. Morgan Stanley research indicates that, going back to 1950, the S&P 500 has climbed an average of 6% and 8% in the 6 and 12 month periods following geopolitical events. Conflicts are headline-grabbing events in the short term, but they have rarely altered the market's longer-term trajectory.
After years of megacap tech carrying the market on its back, a rotation that started in October has picked up steam. Previously underperforming segments of the market are now outpacing megacap tech. Value is beating growth. Small and mid-cap are beating large cap. The equal-weight S&P 500 outperformed the cap-weighted index by 4% in February, its fourth straight month of outperformance. International equities have also outpaced U.S. stocks YTD. Market leadership is broadening, and our equity portfolios are positioned for it: well diversified and deliberately tilted toward quality.
Summary:
Operation Epic Fury is the most significant geopolitical event since Russia’s invasion of Ukraine. A prolonged closure of the Strait of Hormuz would have meaningful implications for energy prices, inflation, and global growth. But the market's relatively measured response reflects an expectation that this conflict, while serious, will likely be contained in duration and scope.
During geopolitical events, the noise-to-signal ratio goes parabolic. This environment is a reminder of why we value diversification so much. For now, despite the fear and uncertainty, the right move is the same one that has served long-term investors well through every geopolitical event on record: maintain discipline, trust your customized financial plan, and try to tune out the noise.
Thank you for your trust and partnership.
David Wrigley
Chief Investment Officer
AAA, as of March 5, 2026
Bloomberg, as of March 3, 2026
The information contained herein is the opinion of the author as of the date the market update was written and is subject to change without notice as markets change, and new information is available. While Diversify utilizes sources deemed to be reliable, we have not independently verified the content. Investors should carefully consider any changes based on this market commentary and discuss their individual circumstances with their trusted advisors. Past performance is not indicative of future results. This communication is for informational purposes only and should not be construed as investment advice or a recommendation.
