Cease-Fire – Pause Or More?

By Brian Andrew, CFA®, Chief Investment Officer

Summary:

• 10-point plan not likely where we land.
• Markets are reacting favorably to the hold on hostilities, stocks up, oil down and yields lower.
• Interest rates and stocks remain intertwined and yields will drive stock valuations for now.
• The global order in the Middle East will be permanently changed. This could change investment there near-term.
• Oil infrastructure damage has taken 4-6% of production off-line for 3-5 years, this adds an oil price premium for an extended period of time.

The U.S. and Israel have agreed to a two-week cease-fire with Iran. This comes on the heels of an announcement by the President that if the Strait of Hormuz wasn’t opened by 8pm ET Tuesday, the U.S. would increase hostilities toward power and transportation infrastructure.

Markets have reacted favorably with European bourses rallying 4-5% and here in the U.S. near 3%. Bond yields have fallen 10-12 basis points and the price of oil has declined by 13-15%. So where from here for geo-politics and markets?

10 Point Plan
We can take some clues from the Iranian 10-point plan referenced when the cease-fire was announced. The plan included: 1) no more attacks on Iran; 2) end the war for good; 3) stop Israel strikes in Lebanon; 4) lift US sanction; 5) No more attacks on allies in Middle East; 6) Strait of Hormuz reopens; 7) a $2 million fee per ship to transit the Strait; 8) share money with Oman; 9) Create rules for safe passage; 10) use proceeds from fee collection to rebuild Iranian infrastructure.

There are a number of non-starters here for the U.S. Though the fees and use of those proceeds for Iranian benefit has been mentioned by the President as a possibility. Should negotiations take place in Islamabad beginning Friday, this will be the starting point.

In the mean-time, the U.S. isn’t likely to reduce the number of troops or ships in the region until there is a real end to the war. However, the Secretary of War announced this morning that from the U.S. perspective the war has been “won” and the objectives the U.S. had have been met.

It is possible that one of the objectives was to show the allied countries in the region that the protection of the Strait and the transit of their energy and related products has to be taken up more by them than the U.S. In the process though, we’ve show the world where their supply chain bottlenecks are and how vulnerable the global energy, food supply and microchip manufacturing is to this region. While Dubai was an example of how investment in the region could change the economies surrounding the Strait, the world will look differently now at safety in the region.

Markets
Stocks are rallying this morning while bond yields are falling! Leaving in place the correlation between these two markets. We had hoped, coming into 2026, that stock markets would begin to focus exclusively on earnings growth and price/earnings ratios would modestly expand because earnings expectations would rise.

With the prospect of higher inflation due to higher oil prices, this seems unlikely, at least for now. While oil prices have declined this morning by almost 15% they are still more than 40% higher than they were before the war. Exxon has estimated that 4-6% of global energy supply has been taken offline due to damage to energy infrastructure in the region because of the war’s bombing campaign on both sides. This could create a price premium that will be longer lasting than the market is anticipating. And, of course, we don’t know if the cease-fire holds.

Technology stocks often lead gains on rally days, including today. It seems their sell-off has created a view among some value investors that the time is now to add to positions. We have also noted that small and mid-cap stocks continue to do well on up days. Today, small cap growth stocks are outperforming large growth by .5%. With a nod toward those better earnings expectations, it seems growth is also slightly outperforming value.

Bond yields, as mentioned have declined today. The 10-year Treasury yield had risen to almost 4.5% after hitting a low in late February of 3.92%. Today yields have backed off to 4.27% suggesting that the potential for a rate increase has been revised downward.

Volatility measures have declined today. However, we should not assume that the war is over and the cease-fire permanent. We’re also not trading accounts based on this volatility though believe our positioning will be altered for the potential of higher inflation. We’ll continue to monitor the situation and should further changes be warranted will communicate that.

Reach out to your Merit advisor if you have any questions.