The FTSE 100 fell on Monday as investors scrambled to realign portfolios in the wake of the US-Iran conflict that began on Saturday and showed little sign of abating as the trading week got underway.
London’s high weighting towards oil majors and the defensive sectors meant the FTSE 100 fared better than some European indices on Monday, but it was still over 1% lower shortly after midday.
“The uncertainty factor reigns again,” says Dan Coatsworth, head of markets at AJ Bell.
“Scenes in the Middle East have caused widespread nervousness across financial markets. The US attacks on Iran have caused oil prices to soar amid fears of disruptions to supplies, pushing up costs for businesses and consumers. That ranges from costing more to fill up the car to making it more expensive to run factories.”
Investors will also be cognizant of the impact of higher oil prices on the chances of interest rate cuts by the Federal Reserve and Bank of England at upcoming meetings.
“Financial markets typically prefer lower rates to higher ones, and any prospect of rates staying put or even going up would be taken as a negative for share and bond prices,” Coatsworth said.
“A higher cost of borrowing would be negative for consumer and business sentiment, and feed into slower economic growth.”
These concerns played out in the FTSE 100’s cyclical sectors on Monday, with banks, housebuilders, and retailers among the sectors heaviest hit.
Barclays shed 5% of its value while Standard Chartered and HSBC lost around 4.5%. Barratt Redrow and Taylor Wimpey gave up 1%.
IAG shares were down 5.5% as flights to the Middle East were grounded. Higher oil prices will also dent the airline’s profitability.
Unsurprisingly, oil majors and defence stocks topped the FTSE 100 leaderboard. BAE Systems was the FTSE 100’s top riser as traders piled into the defence group, which was 4.5% higher at the time of writing.
Investors jumped into BP and Shell as Brent Crude oil prices rose as much as 10% before easing back. Shell and BP could prove to be sensible places to be in the coming weeks if there is a more profound supply disruption in the region.
Daniel Casali, Chief Investment Strategist at Evelyn Partners, said: “There is also the risk of broader attacks on regional energy infrastructure or US-linked assets across the Gulf, as most of the key oil infrastructure sits within short-range missile range of Iran. However, at this stage, markets are pricing heightened uncertainty rather than a sustained supply shock.
“It is also worth noting that global oil inventories have been rising, which provides a partial buffer against near-term supply disruption. That does not eliminate risk, but it may dampen the impact unless escalation becomes materially worse.”
The fading rally in oil prices on Monday supports the view that the world can absorb short-term disruption. That may change as the week progresses.