Across the Pond: The Israel-Iran crisis and beyond
The desk posits that while the ongoing conflict between Israel and Iran carries localized concerns, its implications for the global economy remain limited at this juncture. Per the full note source, Paul Donovan of UBS highlights that historical patterns indicate such geopolitical tensions typically dissipate rapidly, with markets recovering in days to weeks. Currently, oil price fluctuations are being driven from low levels but are not expected to escalate substantially unless there’s disruption in supply chains, which has not occurred yet.
What the desk is arguing
The desk contends that the Israel-Iran conflict poses minimal risk to broader market stability in the short term. This positioning is bolstered by historical data demonstrating that geopolitical crises often have a muted effect on equity markets after initial spikes in volatility. In this instance, no significant disruption to global logistics or energy supplies has been reported, thereby reinforcing a sense of containment around the situation.
Additionally, as of now, oil prices have indeed risen slightly due to the tension, but this movement is from a very low baseline. Donovan pointed out a recent oil pricing uptick without significant implications for the macroeconomic environment unless supply chains are affected.
Where it sits in our coverage
In our coverage, the consensus target for USD/CAD is currently set at 1.075, with a projected range of 1.04 to 1.12. Notably, jpmorgan aligns with our view at a target of 1.10 for March 2026, maintaining a neutral to bullish outlook, while bofa expresses a contrary stance with a lower target of 1.04.
This desk’s assessment aligns closely with the upper bound of the forecasted range. Hence, we are positioned slightly more bullish than some market participants may prefer.
01The Israel-Iran conflict is currently localized with limited global economic impact.
02Historical trends suggest rapid market recovery after geopolitical tensions.
03Oil prices have increased, but no supply disruptions have occurred as of yet.
04Consensus targets show alignment with our outlook, with some firms being more cautious.
Market implications
Watch USD/CAD as a reflection of geopolitical factors acting on energy markets. A significant shift in price might occur if tensions escalate to disrupt oil supplies, thus affecting broader commodity prices. Traders should remain vigilant around the 1.075 mark for any signs of volatility.
Risks to this view
The prospects outlined could reverse quickly if military actions escalate and lead to severe disruptions in oil supply chains. Additionally, a substantial adverse humanitarian outcome could trigger unexpected market reactions due to heightened risk aversion among investors.
ubs
Welcome to another episode of Across the Pond, where we discuss the big stories and top investment ideas from the Eurozone and Switzerland. Events in the Middle East are moving fast. Israel and Iran continue to exchange missile fire.
Investors are also focused on the risk that the US could take military action against Iran. So what could the latest crisis mean for the global economy and financial markets? And more broadly, how should investors cope with flare-ups between nations?
I'm Christopher Swan. And I'm Belinda Peters. Historically, even major geopolitical events have tended to have a surprisingly fleeting impact on the global economy and financial markets, with a few notable exceptions.
In fact, our analysis going back to the Second World War shows that equities are typically trading higher again within a matter of days, weeks or months. But while a cool head tends to serve investors well, they can't afford to ignore such crises. And lasting geopolitical shifts such as de-globalization can have profound effects on markets.
So to break down these issues and current events in the Middle East, we are lucky to be joined again by Paul Donovan, Chief Economist at UBS Global Wealth Management. So let's start with the current situation. So, I mean, as we mentioned at the beginning, not every geopolitical crisis is sort of equal in terms of its impact.
So where do we see in this confrontation between Israel and Iran the main risks to the global economy and markets? So I think this is a situation which offers relatively limited global implications. Whilst obviously the humanitarian cost is quite terrible, as it always is in any cause of conflict, this is still very much a localized issue.
We have not seen disruption so far to global energy supplies or shipping or so on and so forth. I think these are where the main concerns would lie. So we have seen some increase in the oil price from a very low starting point.
Where that has some bearing is primarily in the United States, because what that means is that the increase in the oil price will feed through into prices at the pumps at around the same time that the inflation impact from trade taxes, President Trump's aggressive tariff regime, is also going to be feeding through into consumer baskets. So you get a little bit of an amplification of what's a fairly moderate oil price increase in the United States, because it hits at the same time as some of the US administration's other inflationary policies are going to be hitting. Shipping has been a little bit disrupted, but we're seeing less global trade anyway.
So the effects of that on shipping costs are still fairly limited. And so far, we're not seeing any serious attacks on commercial shipping in the Gulf. So this is not something which has escalated dramatically.
Again, I think that's fairly, fairly limited. The news is dominating headlines, obviously, and quite rightly. But that is not, again, something that seems to be having an impact on consumer behavior outside of the immediately affected areas.
Because again, this is seen as a very serious situation, but also a very locally contained situation. So maybe we can focus a bit on oil. One geopolitical crisis that did have a major impact on markets was the OPEC oil embargo in the 1970s.
So I think you've made a point before that global GDP has become progressively less oil intensive over the years. Could you maybe talk about this for a bit? Yeah, so this is a fairly obvious situation, and in fact, was partly provoked by the OPEC oil embargo after the onset of the Omkhapur War in 1973.
That what has happened here is that as oil prices became more volatile, and every time they went up, people would then go out and invest in either energy efficiency, and you just think about the energy efficiency of home heating systems or of autos, you've had this massive increase in efficiency. And you've seen investment in alternative energy, and that has become massive around the world. I mean, on a good day, around half of the UK's electricity supply can come from renewable resources, for example.
And of course, once you make these investments in response to a spike in the oil price, you don't go back. So if you'll forgive a personal example, when I bought my house, it had oil-fired central heating, and the oil boiler was older than I am, which meant it predated the OPEC shock. It was enormously inefficient to operate, and the oil price went up, and it was just unaffordable to heat the house.
So what did I do? Well, I bought a new, modern, more efficient oil boiler, I plastered the roof of the house with solar panels, and I bought wood-burning stoves. If the oil price comes down, I'm not going to go back and say, all right, let's disconnect the solar panels, because the oil price is down.
That would be insane. So having made that shift, it becomes a permanent shift, and that means that the world economy today is dramatically less sensitive to oil price fluctuations than it was 40, 50 years ago. I guess that sort of goes on to the question of what turns a sort of humanitarian crisis and a geopolitical confrontation into something that investors should be concerned by.
I mean, I guess that can either be sort of a political showdown or a policy change within a particular country, but sort of what exactly causes that transition from something that sort of dominates the news to something that has a lasting impact on markets? Well, I think the main consideration here is, is there an impact on consumers' behavior? And that could be triggered, for example, by a dramatic oil price increase.
That's something that consumers become excessively aware of, particularly in the United States, where consumer oil prices are very lightly taxed. So a change in the crude oil price passes through very quickly into higher inflation. So that sort of thing, where consumers are aware of the conflict in their day-to-day lives.
We're aware of it in the sense that we're following it on the news, we're listening to podcasts about it, we're looking at it in terms of social media. But to actually then go out and say, I can't afford to spend money because of this, or I'm not going to go on holiday there because of this. That's where you get the breakpoint, and that's where it starts to become a lot more meaningful.
Similarly, if corporates are having to dramatically change their actions. So earlier on in this crisis, we had the Houthi attacking shipping in the Gulf, and that caused shipping to reroute. That led to some supply chain disruption, some delays.
That was a minor set of changes, but it was a change to the corporate environment, and that did then lead to a moderate market reaction. So it's that sort of thing that we have to be looking for. Are we going to have to price in additional costs or risks around changed behaviour?
If it is something which people are emotionally upset by, but not actually affected by in their day-to-day lives, then the economic consequences and ultimately the market consequences are a lot more limited. I mean, just a quick follow-up on that one. I suppose, you know, in terms of disruption of crucial resources, I mean, obviously oil always takes the headlines.
It has taken the headlines for a very long time, given its historic role. But we also have sort of rare earths and earths now, which sort of makes me think a little of the sort of trade conflict between the US and China. So rare earths are a good example of a way in which concentration of resources in certain areas can then lead to potential for supply chain disruption and potentially more significant power.
Of course, one of the interesting things here is rare earths aren't actually that rare, and you can do without them. You may have to be innovative and come up with new ways of doing things, but you can do without them, in which regard they're not actually that different from oil. You know, after the OPEC oil shock in 1973, as we've discussed, people went out and became more efficient.
They changed, you know, how they designed cars. They changed how they travelled. They changed how they heated their homes.
Well, exactly the same thing I think will happen if you see continued choke points on the supply of rare earths, then people will adapt. This is what is known in economics as the Fukushima effect, that we tend to underestimate the ability of human beings to adapt in the face of a crisis. So if you suddenly were to see significant disruption of rare earth supply, you would then see people adapting, either by going out and exploring for rare earths elsewhere in the world, just as North Sea oil was developed after the first OPEC oil shock, or alternatively, by finding substitutes, just as we went to solar panels and wind power after the succession of higher oil prices.
So you would see people adapting over time to that situation. And so based on the conditions that you mentioned previously on how this could become an economic or market issue, where do we currently see the major potential risks? It seems that the biggest worry has been US trade policy, but we also have the ongoing war between Russia and Ukraine.
Well, with Russia-Ukraine, it is actually fairly similar to the situation with the conflict in Gaza and the conflict with Iran and Israel, in that I think markets shortly after the invasion of Ukraine priced in a lot of the risk, and nothing has happened since then to actually rebalance those risks. We have not seen additional disruption to the flow of energy. Energy supply chains have adjusted, and we have moved on.
We are not seeing additional disruption to grain supplies coming out of Ukraine, for example. So unless you're going to change the status quo significantly, that's not something which then is affecting the markets. Once it's in the price, it's in the price.
Now this is where I think the erratic nature of the US policy that we are seeing on trade, where President Trump makes these significant announcements and then retreats very quickly from them, and then perhaps you get another wave of announcements coming through. At times there is uncertainty about what the trade tariffs actually are. There's this scramble to clarify after a truth social post about what's actually going on with the tariffs.
Tariffs aren't actually always being collected in real time, because after government cuts, there's not necessarily enough people to collect the tariffs. So this is creating a very uncertain, very chaotic position. The US courts are intervening, et cetera, et cetera.
What all of that means is that it's very difficult to price in with any certainty what is going on with US trade policy. And that is something that was being reflected in the last press conference after the FOMC meeting, where Fed Chair Powell is basically shrugging his shoulders and saying, yeah, I don't know. And so you've now got this situation where there is not really, I think, a clear understanding about what happens next with policy, but also not just the level of tariffs, how quickly they're applied, how quickly they pass through to the consumer is uncertain, how US companies respond to that, how companies are responding to the uncertainty itself.
If the Fed doesn't know what's happening next, is a small Midwest manufacturer going to know what's happening next? And if they don't know what's happening next, are they going to sit on their hands, not hire, not invest? And that then has economic implications.
So the very fact that trade policy is so uncertain means that that is almost impossible to put in the price definitively. Whereas the situation with Russia, and to perhaps a lesser extent, the situation with Israel-Iran, there we have a greater degree of certainty about what is going to be disrupted in terms of the economy. And so that is something that is easier to price into the markets.
So talking about how investors can respond or protect portfolios in the face of such uncertainty, I think our normal approach is to sort of counsel against obviously panic selling given the propensity of markets to often rebound relatively quickly once the initial shock has passed. But I guess there's also the sort of problem of each risk might need to be hedged slightly differently. So one hedge might not work for a particular crisis and it might work for another one.
So I mean, what are the various ways in which investors can just promote broad portfolio resilience? Well, there's a number of ways of looking at this. I mean, obviously, you're in a situation where different risks will provoke different consequences.
So an energy shock has implications for the US consumer. It has got implications for alternative energy producers. It's got implications for economies that are energy dependent versus those which are less energy dependent.
Whereas a trade shock depends on which sector is being targeted by the trade taxes and how much uncertainty there is and the pricing power of different companies. And so it's a completely different sort of reactions. So how do you cope in a world where, I'm afraid to say, I believe issues around economic nationalism and outright nationalism, prejudice politics are going to be growing over time?
I think this is an unfortunate consequence of the fear and insecurity that periods of rapid change cause. So how on earth do you cope in this environment? And the answer is that you have to have a well considered diversified portfolio.
And I mean by that not just I'm going to hold some bonds and some equities. I mean, yes, fine. You've got more than one asset class in your portfolio.
That's great. But that's not enough. You've got to consider geographic diversity as well.
Because if you are concentrated in the United States, for example, and the US is rapidly raising trade taxes on its domestic consumer, and you're getting retaliation and responses to that and different forms of economic nationalism around the world, that's not necessarily going to help holding a diverse range of assets in the United States. You need to have some assets outside of the United States, which are not going to be so affected by this sort of turmoil. You need, for example, to be looking at companies that have a largely local focus and companies which have a more diverse global focus.
Again, ways of hedging the risk. So it's a question of thinking about where do you need money? Where are your expenses going to be?
What do you actually have to end up getting your return translated into? And then thinking about, well, how can I diversify both my geographic exposure and my asset exposure to make sure that if something goes wrong over here, I'm at least partially compensated with something else on this country or in this sector. That's the approach that you need to be taking.
There really isn't another way in this environment. So that being said, we also haven't touched upon the topic of safe haven assets yet. So what do you think makes a good safe haven asset?
And does this also change depending on the nature of the risk? So I do believe that safe haven assets vary. It doesn't just change according to the risk.
It changes according to the investor as well. So let's take a very simple example. You are worried about inflation in spite of the fact that the economists at UBS don't believe inflation is going to be a risk.
You're saying, yes, but it might be. And so I want to hedge against that. And so I'm going to buy inflation-linked securities, which guarantee to pay me out the headline rate of inflation over time.
Well, that's great. But if your personal inflation rate is different from the headline inflation rate, that's not going to help you. And I have direct experience of this.
I manage money for my college at Oxford. And our consumer basket is radically different from the consumer basket of the country as a whole. We're spending on crumbling buildings and crumbling professors.
And that's our main expense. And that's not properly reflected in the headline inflation basket. So our inflation rate is permanently higher than that faced by the country as a whole.
So if we say, right, we're going to buy inflation-linked UK government bonds, and that's going to hedge us, that's not a safe haven. That's a guaranteed money loser, as far as we're concerned, because our circumstances are different. So I think that investors need to think about, OK, what is going to be an appropriate safe haven asset for me in my circumstances?
And that may not be the same as the safe haven asset your neighbour is buying. That's an important point. When we look at the range of assets, yes, fixed income, particularly high-quality government fixed income, is a traditional safe haven in times of general risk aversion and uncertainty.
The caveat to that is that large fiscal deficits are not good for government bonds. So somewhere like the United States, you've got the competition here of, well, I want a liquid investment that is safe because the world's an unfriendly, scary place, against, but what if the US deficit keeps going up? What if politicians don't get their act together and control the fiscal position?
Then you've got different forces at work there. If you're saying, well, I'm going to be looking at gold as a safe haven asset, well, that is also traditionally seen as a safe haven, but its price has been bid up by central bank action in recent quarters. What happens if the central banks, for some reason, stop buying gold, if they shift to something else, or they're actually looking to liquidate their reserves to deal with movements in their banking system or their currency markets?
What happens if there is a bad harvest in India, which would increase the supply of scrap gold into the market? So again, all sorts of complications there. The truth is that there isn't a single safe haven asset.
Safety comes in having a well-managed, diversified portfolio where you accept that you may get losses in one part, but you'll offset that with gains in another part. That's the safe approach. Putting all your eggs in one basket, however secure that basket may seem, is never a great idea.
I'm really curious now how you hedge against the risk of a crumbling Oxford professor, but maybe we can take that one offline. Port wine. Just a broader question about, I mean, obviously we have geopolitical crises, events that flare up, but we also have sort of major longer-term geopolitical trends, and I know that our sort of risk team is always emphasising that geopolitics is not always risk, that you can sort of spot a trend like, for example, de-globalisation, and that has potential implications for investors.
Maybe you can just delve into that very briefly. Absolutely. I mean, this is, you know, in times of turmoil, in times of dramatic change, there are always negative and positive consequences that come from that, and so in the very, very big picture that I've been talking about, where the structural changes of the fourth industrial revolution create fear, which creates scapegoat economics and prejudice politics, and within that, economic nationalism.
That's a chain of events which is sadly very predictable, and which we can try and resist as much as possible because none of that is good news, but that's the direction that you are likely to see things going in. But then, if you're looking at de-globalisation and localisation within that, there will be opportunities, so there will be sectors that will benefit from that. Localisation, which is not quite the same thing as de-globalisation, so localisation is when it is more efficient to start using robotics and automation to produce locally, that could actually be beneficial over time.
It could increase efficiency. It could certainly help certain technology companies. Long-term trends around demographics.
Demographics is one of the very few things in economics where we've got a reasonably high degree of certainty about the forecasts because this is something which is quite easy to predict. People have been doing this for several hundred years, and so looking at demographic trends, thinking about what they throw up as opportunities and as risks as well, but also as opportunities over the longer term in terms of old-age care, in terms of changing the structure of the workforce, in terms of the investment behaviour of people as they grow older. All of those sort of things are important considerations.
So, looking at the long-term themes, I think, helps provide you with a safe framework in which to be considering investing. And I'm not saying that you can't make a bet against a long-term theme in the very, very short term, but if you're investing for anything other than a speculative play, you need to be thinking about, is this investment strategy that I'm pursuing consistent with the long-term themes that we are pretty certain are going to be taking place over the next couple of decades. And maybe a bit of a follow-up here.
What about Europe? Are there any opportunities for investors here, especially with the range of different catalysts that you mentioned before at play right now? Well, Europe is certainly, I think, an interesting area.
I mean, Europe has always been actually a fairly interesting area. It's just not been fashionable. And there are fashions in investing, and dare I say it, even in economics from time to time.
But now Europe is starting to become a little bit more hip and trendy and starting to produce more TikToks. So, you know, this is a trend that we're going to be seeing. And I think within this, the fact that Europe is, for example, looking at more fiscal spending, and it has the room to do fiscal spending, which, to be honest, the United States does not.
The fact that, yes, Europe is involved in a trade dispute with the United States, but it's not involved in a trade dispute with the world. The United States is involved with a trade dispute with the world. Europe is trading perfectly amicably with the United Kingdom, with China, with Japan.
And so that lessens some of the trade shock risks that are coming through. The moves towards sustainability have been important in Europe because they have, over time, lessened the energy dependence on Russia and ultimately on fossil fuels, and that's shifting some of the dynamics. So there's lots of things around Europe which I think can be exciting.
Now, we have to be realistic. Europe has an aging population, and several key economies, notably Germany and Italy, have declining populations. So the headline GDP growth rate in Europe is very unlikely over the long term to match the headline GDP rate in the United States.
It might actually exceed it this year, but over time that's unlikely to happen. But GDP is not everything. In fact, GDP is actually not that much at all when it comes to investment decisions.
There's still a lot of potential for innovation, development, and growth within Europe as we see these changes in fiscal policy, the support for education, the adjustments to the aging society, and so on. There will be lots of potential there, but they won't all be captured by the GDP number. All right, that's very clear.
But I think we have run out of time now, so I want to thank you, Paul, for joining us again, and also thanks to our listeners. We can't delve into specific securities on these podcasts, but you can explore some of these with your UBS representative. But just to quickly sum up here, major geopolitical and structural shifts, including deglobalization, are not just sources of risk, but also powerful drivers of long-term investment opportunity.
So by maintaining a diversified, forward-looking approach, investors can target sectors and regions set to benefit from these changes. And in Europe specifically, it makes sense to focus on defensive companies with stable earnings, as well as those positioned to benefit from increased government spending on infrastructure and defense. So we'll be back soon with another installment of Across the Pond, and in the meantime, have a great week.
To view the latest research, and distinct, differ in material ways, and are governed by different laws and separate arrangements. In the USA, UBS Financial Services, Inc. is a subsidiary of UBS AG and a member of FINRA SIPC. For information, please visit our website at ubs.com forward slash working with us.
For a full legal disclaimer applicable to the independent investment views produced by UBS, please visit our website at ubs.com forward slash CIO dash disclaimer.