Middle East conflict: Is an end in sight by April?
Historically, wars that start as “short” and decisive often drag on, as they incentivize one side to raise the costs of conflict. Iran is pursuing this strategy. While our base case is a ceasefire by end April, the risk of a longer war remains significant and underpriced by markets.
Considering the current course of the Iran–America war, two main scenarios present themselves:
- a long war (e.g., involving many participants, with Iran firing at 12 countries) or
- a short war (e.g., due to a large mismatch in military capabilities).
Cost of waging a short war is a long war
Political science literature, which provides extensive research on the workings of interstate wars and their duration, suggests that wars tend to drag on when one side clearly prefers a short conflict. This is because it creates the incentive for the opposing belligerent to extend the war and gain a more advantageous outcome. Iran is now pursuing this strategy, despite experiencing total defeat in conventional battle. Its ability to use asymmetric, cheap drone warfare to 1) deter energy transit through the Strait of Hormuz and 2) inflict damage on energy facilities in the Gulf means it can raise the cost of war for the US and its allies.
So, does this not imply a longer and larger energy shock? Yes, but financial markets remain unconvinced. Markets still assign a 50% chance of a ceasefire before May 2026—i.e., within the next 6 weeks. Broadly, we agree. But that still means there is a 50% chance that the war may extend well beyond the timeframe and risk the markets are pricing for right now.
Our base case is for a short war
Ceasefire in April (55%) (Regime survives, but fears further damage, and hence agrees to a ceasefire in April) | 1979 redux (45%) (Regime retains enough drone capability to sustain energy disruption, dragging war out for months to extract US concessions) | |
Energy disruption | Gradual normalization starting in April | Incremental deterioration in energy supply over 2–3 months |
Oil price (as of April 30, 2026) | $80–85/bbl | $120–150/bbl |
At such odds it is, therefore, prudent to start thinking about what such a longer conflict (>two months) implies for economies and markets.
Week 3 assessment
Positive (sooner end to war and better for risk assets) | Negative (prolonged war and worse for risk assets) |
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Implications of a longer war
1. Oil shock will hurt labor
To hark back to a saying from the early 2020s—we all know such an oil shock would be “transitory.” However, research shows that temporary does not mean short-lived: energy may only represent ~7% of the headline consumer price index (CPI), but energy price rises do spill over and push other costs up, leaving even core personal consumption expenditures (PCE) slightly elevated for longer than the actual shock period. There would also be additional, though delayed, inflationary impulses from higher fertilizer and petrochemical prices, which would show up in higher food and material costs two to three quarters later.
Nonetheless, if oil prices sustain above $120/bbl for several months, market concerns would quickly pivot to growth. This is because historically high oil prices have been associated with economic downturns (Figure 2).
The key difference relative to the 2022 shock would be that the current backdrop is characterized more by weaker growth than higher inflation. In the US, this is best illustrated by the labor-market fragility, especially compared to the outbreak of the Ukraine war. Back then, labor demand far exceeded supply, allowing higher inflation to pass through to higher wages, sustaining consumption. This time around, households would quickly feel the hit to real incomes and consumption would decline.
2. Stagflation will lead to a broad equity drawdown
In a stagflationary oil shock, where growth could be significantly damaged, bond markets would begin to respond differently than thus far. Since the Iran war started, bond yields have risen, with the average G7 ex-Japan 10-year bond yields rising 40 bp.
Once markets shift to growth worries, yields will move in the opposite direction, at a time when equities would suffer from the worsened economic outlook. Current market pricing is overall still very risk-on, so there is much room for a drawdown.
In such an event, bonds’ hedging qualities would be temporarily restored, with eventual support for the front end of the curve from the expected rate cuts by US Federal Reserve (Fed). However, the wider term premium is likely to remain sticky, causing short-term rates to drop faster than long-term rates. So, the overall yield curve should steepen in a shock scenario after the war has concluded.
3. USD will gain strength vs. energy-importer currencies
The same dynamic applies to the USD, which should continue to exhibit strength (especially vs. energy-importer currencies) until lower US bond yields are realized through Fed rate cuts.
Major energy-importer currencies
Currency | Country/region | Notes |
EUR | Euro area | Large net importer of oil and gas |
JPY | Japan | Almost entirely dependent on imported energy |
KRW | South Korea | High reliance on imported oil and LNG |
INR | India | Imports the majority of crude oil needs |
TWD | Taiwan | Structurally energy‑import dependent |
PHP | Philippines | Energy imports weigh on trade balance |
THB | Thailand | Sensitive to oil prices via imports |
TRY | Turkey | High energy import bill and external financing needs |
The US has more room, and a more agile central bank, to cut policy rates vs. energy importers, whose rate trajectory would probably remain higher despite weaker growth.
It would be prudent to ensure sufficient portfolio hedges to weather a deeper oil shock.