Central bank policy on hold as markets weigh energy risks

Key takeaways

• Energy markets remain volatile as Middle East tensions escalate
• Central banks largely hold rates amid uncertainty
• Investor sentiment turns more cautious, but not panicked

Geopolitical developments in the Middle East drove market attention this week, with reports of energy infrastructure being targeted leading to sharp moves in oil and gas prices.

At one point, Brent crude rose to as high as $119 per barrel before retracing some of those gains. Natural gas prices also moved higher.

Energy remains the primary channel through which this conflict is affecting markets. Our base case is that the conflict will be relatively short-lived, suggesting the energy price shock should also prove temporary. However, a more prolonged shock would have broader implications for global growth.

While the U.S. is now a net energy exporter and more insulated than many non-U.S. regions, sustained higher energy prices would still weigh on the global backdrop.

This creates a more nuanced picture for equity markets. Coming into the year, non-U.S. equities appeared supported by more attractive valuations and improving fundamentals. Whether that trend resumes will depend in part on how long current tensions persist.

Given the uncertainty, we believe investors are best served by remaining close to their strategic asset allocation. Our current U.S. recession probability remains at 20%, though that could rise if energy prices stay elevated.

Central banks were in focus this week, with most opting to leave policy rates unchanged as they assess the evolving outlook.

The Federal Reserve, Bank of Canada, European Central Bank, Bank of England and Bank of Japan all held rates steady. The Reserve Bank of Australia was a notable exception, raising rates by 25 basis points in a split decision.

Market expectations for further rate hikes in Australia — and to some extent Canada — appear somewhat aggressive in our view, particularly given signs that some inflation pressures may prove temporary and growth conditions remain uneven.

From a fixed income perspective, we continue to see relatively more attractive valuations in non-U.S. government bonds compared to U.S. Treasuries.

Investor sentiment has shifted modestly toward caution in recent weeks, reflecting geopolitical uncertainty and market volatility.

Survey-based measures across both retail and institutional investors indicate a more defensive tone. However, sentiment has not reached levels typically associated with market stress.

For now, the combination of uncertainty and only moderately cautious sentiment supports maintaining portfolio positioning close to strategic allocations.