IRAN WAR: IMPACT ON THE STOCK MARKET

By Henry Cobbe CFA, Head of Research at Elston Consulting.
Elston Consulting provides asset allocation insights and fund research to UK-based investment managers and financial advisers as support to their investment committees.
For UK investment managers and financial advisers only

In this article we explore the Iran conflict’s impact on the economy and the stock market.  In a related article we explore why Trump started the war with Iran.

Portfolio Resilience Amidst an Energy Shock: The 2026 Iran Conflict

What does the Iran conflict mean from an economics perspective?

When we consider broader economic and market impact we focus on the three key macro factor Growth, Inflation and Rates (“G-I-R”).

• Growth: the spiking oil price raises input costs not just for fuel, but also for all forms of fossil fuel energy as well as chemicals and fertilizer.  By dramatically raising agriculture, business and household’s running costs, there’s a danger that the economy could slow or fall into a recession.  Whereas tariffs triggered a growth scare in 2025, the Iran war is triggering a stagflation share.  Stagflation means stagnant growth with sticky inflation.
• Inflation: there is a risk of a second wave of inflation – a reacceleration.  Just like there was a second wave of inflation with the Gulf oil blockade in 1973, the closure of the Strait of Hormuz could lead to a second wave of energy-led inflation shock.  We have already seen UK 5 year breakeven inflation rates – a market derived measure of expected inflation tick up rapidly.  This would be very negative for nominal bonds such as longer dated Gilts and weakens the purchasing power of savers’ cash.
• Rates: with the last inflation shock just over, Central Banks were getting ready to cut rates. But with elevated inflation, Central Banks are more likely to keep rates on hold.  If the energy spike persists and inflation reaccelerates, then interest rates could even be increased.  This is a dramatic u-turn in market expectations from before the conflict commenced.

This is a very different outlook than that at the start of the year, and the rapid changes in both equity and bond markets reflect that repositioning as the outlook adjusts.

What does this mean for Equities and Bond markets

Slowing growth is bad news for equities, and the combination of reaccelerating inflation and level or even rising interest rates is bad news for bonds.  The longer the current supply shock runs, the greater the risk that we head for another 2022 where equities are at risk, and bonds don’t provide any protection.
Like Russia/Ukraine conflict-related energy shock in 2022, an Iran-conflict related energy shock in 2026 would be:

1. bad news for index-tracking equities (no scope for sector/factor selectivity);
2. bad news for traditional nominal bond allocations (reaccelerating inflation offsets real returns)
3. bad news for multi-asset passive funds and portfolios that lack alternatives allocations as diversifiers

So what should advisers do to build in portfolio resilience?

We are reaching once again for our radical and contrarian 2022 inflation adaptive playbook that helped protect our IFA and DFM clients back then who were overseeing multi-asset portfolios.  To recap, it involves three steps.
Equities: tactically reduce and tilt toward Value/Yield
Reducing equities within budgeted risk mandates to mitigate downside risk.  And tilt equity position to value and yield factor.  Dividend‑oriented equities (such as UK Equity Income) have historically offered better resilience in inflationary, rate‑sensitive environments. They often represent businesses with persistent pricing power or stable cash flows – characteristics the market rewards during periods of uncertainty.
Bonds: tactically reduce and shorten duration
Nominal Bonds such as Gilts and Corporate Bonds are poor stores of value when inflation rises.  Their fixed stream of cashflows is worth less and less in real terms as inflation rise.  And the longer their term, the less valuable that future value is in today’s terms.  With risk of static or rising interest rates, it makes sense to shorten duration.
Alternatives: tactically increase using an all-weather fund approach
With equities and bonds at risk, it makes sense to reach for Alternatives.  But what kind of Alternatives?  
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What is an all-weather fund?

The starting point for an all-weather approach is the "permament portfolio." This is an equal weight allocation to each main asset class (also known as the bullet-proof portfolio or Brown portfolio).  This can be constructed with a 25% allocation to equities, a 25% allocation to bonds, a 25% allocation to cash, and a 25% allocation to gold.   This portfolio is represented by the Elston Equal Weight Portfolio Index as a benchmark in GBP for UK-based investors.

All-weather strategies have evolved to include a broader range of assets and a dynamic asset allocation approach, with more moderate sizing to indivdual asset classes.

All-weather funds are ready-made diversifiers

All-weather funds (in the UK these typically are fuds in the IA Targeted Absolute Return sector) aim to deliver positive above-cash returns in all market conditions over a given rolling time period (e.g. 3 years).  From a portfolio construction perspective, the differentiated (uncorrelated) return pattern enables true diversification.  They can be managed to ensure downside protection too.  This makes them useful alternatives to bonds.
However not all Absolute Return funds are delivering on their targets.  Some are not delivering in line with their objectives, some are overly complex, and some are overly expensive.  And a few are all three.  So understanding and choosing an all-weather Absolute Return fund is key.
To find out which Absolute Return funds are on our radar, please Contact Us.

Which all-weather funds does Elston Consulting work with?

Since December 2023, we have been consulting to the managers of the VT Avastra Global Diversified Assets fund and they have been using our research ideas as the key driver to their decision-making process.  For us it’s great to see our asset allocation ideas come to life, and that’s showing through in performance through this difficult time.  We meet formally each month but also have ad hoc meetings at any time.  Because the holdings in the fund are all highly liquid , the managers can implement changes in a very agile way.

What changes have been made within this all-weather fund?

The fund bought an Oil ETC in late January as a protection against a potential conflagration, and also bought a Natural Gas ETC as the extent of reciprocal strikes expanded. The fund sold property and infrastructure securities (which are equity like in nature), to move to a more defensive risk-off posture in the first week of the war.  Ultrashort duration bonds have been split across both GBP and USD.
Given the pace of information and change coming out of the conflict, for DFMs and IFAs it can sometimes be too long to wait until the next monthly or quarterly investment committee meeting.  This fund therefore provides UK financial advisers with a more agile way of adapting to rapidly changing markets.
As in 2022, the “buy and hold” approach can be damaging when there is a structural inflation regime change – particularly for bonds and therefore more “cautious” portfolios.  Having an all-in-one diversifier therefore represents a useful addition to portfolios.
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More information is available from the fund’s website www.avastrafunds.co.uk. The fund is available to UK financial advisers and investment managers via most platforms.