Inflation risks return as geopolitics dominate

The most direct economic consequence of the Middle East escalation is a significant rise in energy prices, with macroeconomic impact that differs across the Atlantic.

In the US, the economy is relatively insulated. As a net energy exporter, higher oil prices act as a partial economic offset - what hurts consumers at the pump also provides a boost to the domestic energy sector. The growth impact is therefore more contained, with the primary concern sitting on the inflation side rather than the activity side.

Europe is more vulnerable. As a net energy importer, the eurozone is more exposed to higher oil and, even more so, gas prices. The eurozone does not benefit from an energy production offset, and households remain cautious after the 2022–23 crisis, as reflected in still high savings rates. A renewed rise in energy prices could weigh on consumer confidence just as spending was beginning to recover. Even so, the impact is smaller than during the 2022 energy crisis. Since then, Europe has diversified its energy supply, and even in a more adverse scenario, energy prices would remain below crisis peaks.

For both regions, the outlook depends largely on how long the conflict lasts. For now, our main scenario is that the period of energy supply disruptions lasts for another two months, with a gradual resumption of traffic through the Strait of Hormuz and a reduction in risks to global energy supply. Under this scenario, energy prices would remain elevated in the near term before easing later in the year.

The inflation impact would be most visible in Europe, where inflation would be higher in 2026 and growth somewhat lower. In this environment, we expect the European Central Bank (ECB) to respond cautiously, with two rate hikes likely in the second quarter before pausing.

The US would see a more modest inflationary effect and little to no growth impact. Inflation pressures are also likely to prove less persistent, giving the Federal Reserve (Fed) room to lower rates over time. While we do not expect further rate hikes, the start of easing is now likely to be delayed, with the first rate cut expected in the fourth quarter and a more gradual pace of rate cuts extending into 2027.

We are currently revisiting our scenarios and base case, and ABN AMRO Group Economics will publish their forecasts this week. You can find their latest publications on the ABN AMRO Group Economics website.

From the moment US and Israeli forces struck Iran, equity markets were thrown on a volatile course. Since the start of the Iran conflict, US equity markets have outperformed other regions, as the country has benefited from its relative energy independence.

At the sector level, energy stocks have outperformed, supported by higher oil prices. Cyclical sectors such as materials, industrials, consumer discretionary and financials have underperformed. Defensive sectors, including consumer staples and healthcare, have also lagged, suggesting that investors are not positioning for a risk off scenario. By contrast, information technology and communication services have continued to perform well, as the AI investment cycle continues.

Despite heightened geopolitical uncertainty, equity markets have remained resilient. Volatility has increased, but there are no signs of panic. We therefore keep our equity allocation unchanged for now. We maintain a modest overweight in equities, with a preference for industrials and a more cautious stance on consumer staples.

Following the outbreak of the war, inflation quickly became the dominant driver of government bond yields. Rising inflation expectations and a reduced likelihood of near-term rate cuts pushed yields higher through March, weighing on bond prices. That said, yields have remained within the broader trading range seen for some time, as safe haven flows in the days preceding the conflict provided a counterweight.

These recent market moves suggest that yields are stabilising around the consensus view that the conflict will eventually be resolved. Renewed escalation, particularly further disruptions to energy infrastructure, remains a key risk that could push yields out of their current trading ranges.

On the policy front, both the Fed and the ECB held rates steady at their March meetings, with each institution adopting a more cautious tone than earlier in the year and both flagging the inflation outlook as the primary reason for caution.

In such an environment inflation-linked bonds as an inflation hedge may appear attractive. While we are concerned about inflation in Europe, we are not more concerned than what markets are already pricing in. Furthermore, the ECB has signalled that it is prepared to act if higher inflation starts feeding more persistently into prices and wages, meaning inflation linkers are likely to underperform unless inflation accelerates beyond current expectations. We therefore see no strong case to add inflation protection at this stage.

Despite heightened geopolitical tensions, gold prices have come under pressure. Instead of benefiting from safe haven inflows, market attention has focused on the inflationary impact of higher oil prices and potentially higher interest rates, which is a negative for gold. In addition, a stronger US dollar has also been a headwind for gold, contributing to increased volatility. This has led to investors locking in gains and retail interest easing after a momentum driven rally.

Still, we believe that structural factors such as increased investor allocations, persistent geopolitical uncertainty and diversification demand continue to support gold over the longer term. Earlier this year, we reduced our gold allocation as prices were rising very rapidly and the risk of a sharp correction increased. With that correction now having played out and prices back at more attractive levels, we have decided to rebuild our allocation from 3% to 5%. We fund this increase with cash.

The Iran war has increased uncertainty and pushed inflation risks higher, primarily through rising energy prices. Markets have responded with higher volatility and a repricing of inflation and policy expectations, but without signs of broader stress. At this stage, the key determinant for markets is the duration of the conflict, which remains surrounded by a high degree of uncertainty. Against this backdrop, we have adjusted our positioning by increasing our allocation to gold, taking advantage of the recent price drop while long term fundamentals remain intact. Our modest overweight in equities and neutral view on bonds remain unchanged.

Richard de Groot 
Chair Global Investment Committee