Peace, then what?

Buying the peace

The announcement of a two-week ceasefire in the conflict between the US and Iran allowed markets to enjoy a relief rally. The hope is the ceasefire will precede a permanent peace deal and gradual normalisation of energy markets. 

After the announcement, interest rate expectations came down, credit spreads narrowed, and equities rallied. Inevitably, cracks in the ceasefire quickly became evident and markets gave back some of 8 April’s gains.

Of course, this is not the only path forward. Media reports suggest the list of Iranian demands for a permanent deal, including ongoing control of shipping passage through the Strait of Hormuz, will not be acceptable to the US and its allies in the region. 

If no progress is made on a set of mutually acceptable terms, there is a risk the conflict will resume, and markets would react negatively. In an era of heightened geopolitical risk and US policy uncertainty, the investment outlook is clouded.

Very extreme outcomes are still possible but, due to political realities, probably won’t materialise. Hence a ‘buy on good news’ mindset dominates trading activity. Market participants rightly, in my view, take the gamble that despite the rhetoric, US policies will not deliberately bring on a global slump. 

The global economy has been quite resilient. Borrowing costs are low and earnings growth is solid. It always takes time for equity analysts to revise their forecasts – and often some guidance from companies themselves is required – but the most recent consensus forecasts for earnings per share growth over the next 12 months have shown an improving trend. 

And let’s not forget there is a major technology revolution underway, which while disrupting some economic activities, is also providing tremendous opportunities for companies to boost productivity and for investors to seek new potential areas of return. 

Step back and try to look through the noise

If the Gulf’s tensions are permanently de-escalated, then we can focus on how to build resilient portfolios again and it is important to take stock of where markets are. The themes that should resurface as key drivers of investment trends are numerous. 

They include the expected macroeconomic fallout from events of the last six weeks; how central banks respond to the changing odds of meeting their inflation targets, where we are in the artificial intelligence cycle given the rise in energy costs - and cynicism over AI-related capital expenditure. 

In addition, there is the question over whether private credit can resume its role in the provision of capital to mid-market companies, especially in the technology ecosystem.

Markets will go down again if the ceasefire doesn’t hold. If it does, then we could quickly return to the recent highs. The S&P 500 is just 3% below its record high, and the Euro Stoxx index merely 4%. The US high yield total return index is there already, while investment grade indices are around 1% below their all-time highs. What do we do when we get there?

An even more challenging thought exercise is what to do if the conflict swings between ceasefire and prolonged attrition. We kind of know the playbook. Oil prices increase, stagflation fears resurface, volatility stays high, and the global outlook deteriorates. 

Risk-off sentiment ultimately prevails until the actors say enough is enough. In the meantime, more capital is eroded by volatility and trading losses, and investor sentiment inevitably suffers more.

What is on offer from markets in the medium term?

Taking a medium-term view means assuming some resolution will eventually be found. But it also means, unfortunately, acknowledging relatively subdued expected returns. Bond yields, higher than a year ago, and compared to when the conflict started, are still very much in well-established trading ranges. 

There has been no pricing regime shift; core beliefs are that central bank interest rates are close to neutral, and long-term inflation expectations are anchored. That means medium-term nominal return expectations are 3.5% to 4.5% for US Treasuries, 2.5% to 3.5% for European government bonds, and 4.5% to 5.0% for UK gilts. Returns would only be higher if central banks move to a lower rate regime again.

Higher bond yields, and better entry levels in fixed income, are possible if there is more integration into the pricing of structurally elevated inflation risk (because of the current geopolitical backdrop) or if investors demand higher yields for holding more government bonds. 

But for now, fixed-rate government bonds are not particularly exciting, and the stability of return paths remain threatened by inflation and fiscal concerns.

Defence

For defensive, income-focused investors with a medium-term horizon, adding credit to the starting point of a (‘risk-free’) government bond portfolio should boost expected compound returns. 

Public corporate bond markets have performed reasonably well with no liquidity issues or detrimental credit trends; the energy shock has threatened credit ratings for companies in sectors like airlines, building materials and chemicals, and for some sovereigns that are significant energy importers. 

However, at the market level, after initially widening, credit spreads have since recovered about half the initial sell-off.

Though past performance is not an indicator of future returns, historically, adding up to 50% of investment-grade credit to a government bond portfolio has boosted compound returns over a multi-year horizon by around 70 to 100 basis points, without adding to portfolio volatility.

From a tactical point of view, credit has become more attractive. Some will argue that spreads are too tight - spreads have been wider for both US dollar investment grade and high yield markets for some 86% of the time, since 1996. There is some asymmetry in the outlook. But fundamentals and positive demand for credit continue to support to the market. 

On current yields, a 4.5% to 5.0% return for US investment grade over the medium term is a reasonable expectation. 

Adding high yield credit makes a portfolio riskier but historically adds around 250-300bp to returns from a 50% allocation alongside a government bond benchmark. The combination of rates and high yield is quite compelling, with often a negative correlation between the two return paths. 

Investors can potentially use high yield to aim to improve returns from what is essentially a defensive portfolio. With a global high yield index yield of 7.0% and a market that has proved to be resilient, the post-conflict outlook for this asset class is encouraging.

Equity upside in a peace scenario

More aggressive portfolio strategies need to allocate to equity. But the concern here is that despite the modest reduction in price-earnings multiples in recent weeks, many markets (and individual stocks) are still expensive relative to their longer-term average. 

Readers will have seen charts relating to 10-year annualised returns to the starting price-earnings ratio at the time of investing. No spoilers, it’s an inverse relationship. Of course, a lot of US equity indices’ expensive valuation comes from technology stocks and equity portfolios can be created to mitigate that concentration. 

However, there is a risk that medium-term earnings growth does not match expectations in current multiples, generating lower returns at the index level. 

This is not to say equities should not be in a portfolio. Diversification is key; non-US equity markets are less expensive; active managers can avoid or minimise exposure to super expensive stocks. 

It should be possible for portfolios with significant equity allocations to achieve outcomes that satisfy investors with higher risk tolerance and return needs. Is today a good starting point? It is better than it has been since the end of February, and sentiment suggests investors are ready to buy stocks. 

The global outlook is tarnished by the events of the last six weeks, but the actors in the drama have, so far, stepped back from the abyss and the recent all-time highs for equity markets, the technology sector and software company share prices look like legitimate price targets if the peace holds. 

The themes of broader US equity market performance and the continued attraction of non-US equities should re-assert themselves. In a more uncertain world diversification within equities is even more important. 

And so is diversification across asset classes and deciding where a portfolio should sit in terms of risk tolerance - from low risk, low return government bonds, to investment grade, high yield and emerging market credit, and volatile but high return equity markets.

Investors can’t be blamed for sitting on the sidelines. Uncertainty is high, despite the apparent desire of both the US and Iran to reach a peaceful settlement. It’s clear they both have different ideas of what that should look like, which will keep markets unsettled. But global growth will reassert itself and returns are there to be made over the long term.

Performance data/data sources: LSEG Workspace DataStream, ICE Data Services, Bloomberg, BNP Paribas AM, as of 9 April 2026, unless otherwise stated). Past performance should not be seen as a guide to future returns.