An Update on Middle Eastern Developments and Stocks

Nearly 11 months in, the conflict between Israel and Hamas grinds on and continues threatening to pull in the broader region—keeping investors and pundits on edge. Iran’s potential involvement contributed to a short market pullback in April, and now all eyes are again on that nation after weekend strikes between Israel and Hezbollah, a Lebanese militia and one of Iran’s proxies. The situation appeared to de-escalate Monday, while ceasefire talks between Israel and Hamas continued, but many remain nervous. This is understandable, and an escalation would add to the devastating human toll. Yet markets, cold-hearted and callous, seemingly moved on a long time ago.

Exhibit 1 shows Israeli and global stocks since the end of August 2023, a few weeks before the 10/7 attacks touched off the conflict. As is typical, there were wobbles when the fighting began. Israel’s markets plunged on October 9, the first trading day after the attacks, and fell further in the next few days as investors sized up the likelihood of a difficult, protracted and costly (in every sense of the term) campaign. Global markets initially rose, then pulled back from mid to late October as armed conflict in the region grew likelier. But stocks’ fall ended on October 27. Less than a month later, Israeli stocks were back at pre-10/7 levels, and global markets were up.

Exhibit 1: Markets and the War in the Middle East

Source: FactSet, as of 8/26/2024. MSCI Israel and MSCI World Index returns in USD with net dividends, 8/31/2023 – 8/23/2024. Indexed to 100 at 8/31/2023.

Since then, both have continued rising, albeit with volatility. The wobbles are more pronounced in Israel, especially during the April escalation with Iran, as one would expect given its narrower market and Israeli companies’ heightened exposure to the fighting. But the bull market has continued both globally and locally: Since market close last October 6, Israeli stocks are up 30.3% in dollars (27.5% in shekels), and global stocks are up 29.9% in dollars.^[i]

We doubt this suddenly changes. Israel’s TA 35 index fell just -0.64% in local currency Monday, much milder than Israeli stocks’ early declines last October and April.^[ii] It isn’t even clear that the weekend’s military activity and Iran’s saber-rattling are why—daily volatility is always hard to pinpoint. But global volatility was also muted, with markets in North America, Europe and Asia either ticking up a bit or easing down a bit. If the risk of big, market-disrupting conflict were suddenly higher, we doubt that would be the case. Instead, it seems the war is losing its ability to swing sentiment noticeably.

This is how these things typically go. Regional conflict is tragic and terrible, always, with a dreadful human toll. The destruction to lives and property is awful. But markets don’t weigh the human cost. They may hit sentiment hard when conflict appears likely, but it is typically short-lived. Soon, markets weigh the economic impact and its likely effect on corporate earnings over the next 3 – 30 months. As it becomes clear the fighting will stay isolated in a tiny sliver of the global economy, stocks move on. This time, with the fighting concentrated in a sliver of a region that generates a small share of global GDP, stocks moved on quickly.

Some noted Monday’s rise in crude oil prices and pinned it on the weekend’s strikes and Iran’s potential involvement. Perhaps this contributed to supply disruption fears, but we suspect events in Libya played a greater role. Currently, the country has two competing governments—one in Benghazi, and one in Tripoli, which is the administration recognized in the West. The two sides are currently locked in a dispute over the country’s central bank chief, and the Benghazi administration announced it will shut down Libyan oil production and exports. Should production remain offline, it would shave about 1.2 million barrels per day off global supply.^[iii]

We doubt this leads to another 2022-style spike, given Libya amounts to about 1% of global production, and output elsewhere is growing enough to more or less offset. OPEC also has spare capacity and continues flirting with raising production targets. It wouldn’t surprise us if oil prices rose a bit further from here, as we think the global demand concerns weighing on crude over the summer are overstated, but we doubt a massive move awaits.