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Geopolitical risks – How worried should we be about Iran?

9 January 2020

David Jane, multi asset fund manager at Premier Miton, considers the possible impact of this week’s clash between Iran and the US.

The year has started with the news dominated by the Middle East, in particular Iran’s use of proxies to attack US facilities in Iraq and the US’s somewhat aggressive response in assassinating Qassim Soleimani. There is much media talk of World War Three and some aggressive posturing on both sides but we don’t think events will escalate materially.

When it comes to escalation, both sides in this dispute have a clear interest in avoiding all out conflict, although they may be happy for an escalating war of words.

On the US side, Trump’s mandate partly rests on his stated aim to withdraw from the endless foreign wars, part of his desire to “drain the swamp”. However, another aspect of his appeal to his base is protecting US interests and citizens abroad. Hence, attacking an individual who acts as head of, Al Quds, which the US deems a terrorist organisation, in Iraq.

On the Iranian side, it has always claimed to be a non-aggressor in the Middle East and that it isn’t sponsoring what the US regards as its proxies, such as Hezbollah and Hamas. This rules out any retaliation by proxies as this would simply prove the US’s point. Iran must retaliate directly on US interests for internal reasons, and indeed this is what its leaders are saying. We have now seen direct attacks by Iranian missiles on US military facilities in Iraq, causing what thus far appears to be limited damage.

We suspect that may well be the end of it for now. Iran’s retaliation appears to be very much of the nature you might expect, designed to signal strength to an internal audience but be insufficient in scope and scale to antagonise the US into further escalation.

Both sides have now made their point for the internal audiences and also signalled no desire for any material escalation. Iran’s statement that it would attack the US directly, not via its proxies, can be interpreted as ordering its proxies to cease attacks on US interests, which is a key US demand. At the same time, Trump’s ‘all is well’ tweet can be interpreted as a signal that he doesn’t intend to further escalate.

Considering the longer-term picture, one thing is quite clear: the US’s strategic interest in the Middle East is clearly waning.  No longer is it dependent on foreign energy supplies, now that domestic energy production exceeds demand. Hence, allowing the Middle East to sort out its own disputes is a viable option for the US, although possibly not for Europe. Therefore, aggressive sanctions and posturing appear the most likely US strategy going forward from the US side towards Iran. War looks expensive, unwinnable and without any strategic goal.

Hence, we expect things to soon calm down, although we can be far from clear as to the timing. Broadly, for our portfolios we believe gold can be an effective form of defence against geopolitical uncertainties is gold and this has continued to perform well through this period. This gives at least as good protection as oil and covers more risks than simply disruption of oil production. Oil has had an interesting response as its initial rise has failed to be followed through, despite the headlines.

In summary, we think these particular geo-political developments are unlikely to escalate, although we are grateful for our gold exposure in case we are wrong. More broadly, we do expect markets to be dominated by the troika of politics uncertainty, central banks intervention and economic growth prospects for the whole of this year.

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