Words on Tensions in the Middle East

In this episode of Words on Wealth, host David Hay is joined by CIO Tim Rocks to discuss potential market implications of the recent bombings in Iran and rising geopolitical tensions across the Middle East. They discuss why oil and gas price spikes have historically had limited long-term impact on markets, how investors should think about geopolitical risk within portfolios, and what these developments could mean for the Australian dollar, interest rates and AI stocks. Tune in to find out more.

This episode is also available on Apple Podcast. 

David Hay
Welcome everyone to our Words on Wealth podcast for this week. Our topic is oil slicks for markets, as you well know. To podcast with a difference, we’re streamed live and thank you to everyone that has joined us live today. And we will be sending this episode out in a normal podcast format in the next couple of days. I’m David Hayes, Senior Investment Advisor here at Evans & Partners and joined by our ever familiar ⁓ and comforting face, Tim Rocks, our Chief Investment Officer. Tim, welcome.

Tim Rocks 
Welcome, thank you very much David. It’s great to be not just in Melbourne but in the same room.

David Hay 
know, it’s very, very, very comforting. It’s good, good to see you here. So oil slicks for markets, obviously with the unwinding events or developing events in the Middle East over the weekend, with the Israel and the US ⁓ moving in on Iran, ⁓ the Iranian leadership, they’ve lost a number of leaders, et cetera. And it’s led to some volatility in markets and obviously a heightened geopolitical risk. So we will cover off on some of those topics for you today to the best of our ability noting it’s very much an unfolding ⁓ event. And Tim was just on his phone a couple of minutes ago trying to get himself up to speed with the latest developments. We’ve got some questions in advance and thank you to those who sent the questions through. But on the call, you have the ability via the questions tab on this Zoom call to ask questions. Type them in and at the end of what we’re going to chat about more broadly today, we’ll try and answer as many of those questions for you as let’s kick it off, Tim. So the attack on Iran by the US and Israel has seen the elimination of lot of the leadership in Iran. Should we be worried about this? There’s been retaliation into the Gulf states, which perhaps was a little bit not expected, albeit you expect the unexpected in this scenario. So what’s the worry level here from your point of view?

Tim Rocks

cautious, but not too worried. ⁓ The extent to which it’s going to affect the macro and markets generally is all about the oil price as has been received saturation coverage. But it’s important to break that down a little because there’s a lot of mythology, I think, about the oil price. Now, Iran itself doesn’t is not a major producer anymore because of the embargoes. It’s actually only 4 % of global demand, mostly just sold illegally to China. But so the only way it’s probably can, the oil price can probably rise is if there is some disruption. The two main ways that disruption can occur is if Iran blockades tankers going through the straight of war moves out of Arabia to the rest of the world, or if they attack energy infrastructure ⁓ in Qatar, UAE or in Saudi. So that’s what we’re kind of watching for. But important, getting back to that mythology story, the oil price is nowhere near as important as it was 20, 30 years ago. We use about half the oil now for every kind of unit of GDP, which means that For a shock to matter, it needs to be twice as big as it was in the past. Now at the moment we’re at $80. During the Russian Ukraine thing, which was the last major spike, we got to 120. That didn’t really have any sort of major consequences. So, so far so good. The other thing that’s actually pretty important here is that compared with 20 years ago, oil production around the world is much more spread. Like the US is actually the world’s largest oil producing nation now, like it wasn’t 20 years ago. ⁓ So they’re far less dependent on Middle East oil. So all those things are important caveats to the perception that’s in people’s mind that that oil really matters and that yes, it still matters, but it’s not as critical as it was.

David Hay 
Tim, does the period of time this conflict goes on for and the oil price, does that impact the oil price? is it as much for us, we’re probably jumping ahead a bit here, but is it much for us how this relates to inflation here and around the world as well? Can that, the length of it, mean, is it five weeks, is it six, is it four? We’ve heard lots of numbers, could change tonight.

Tim Rocks
Yeah, no, so that’s exactly the point to really have an impact on global inflation or US inflation. The oil price has not just got a spike overnight, it’s got to stay high for an extended period. So people have these rules of thumb in their head that every additional $10 on the oil price is a 0.2 % for inflation. So we would only start to be worried if you say went up to something like $90 or $100 and stayed there for an extended period. And perhaps we should talk about the scenarios in which that would occur. again, if you’re thinking about the worst case scenarios, they’re going to occur because Iran does this blockade or because there’s big impacts on energy infrastructure. The blockade thing is interesting, but you know, Their cards are very well known. The US in particular has been, Iran always threatens this. ⁓ The US has a whole Navy based in Bahrain ready to start escorting ships through the Strait of Hormuz. They can start that process anytime and probably will soon. And with those escort ships, they can basically create a channel where 70 % of capacity can be restored very, very quickly. So it can’t be your base case that a blockade is gonna be successful and stay for a long time. ⁓ Then the other thing is if they start bombing the infrastructure of other countries and that’s less well, you will have to wait and see on that one. But what we do know is that Iran’s ability to strike has been massively depleted already by the attacks. And, you know, the missiles are firing now, the ones you see on TV, these ones you can see from a mile away and can be shot down relatively easily. So anyway, it can’t be your base case really that we’re gonna get those effects. So it’s more likely that it’s $90 for a few weeks and then settles back down.

David Hay 
So the conflict has appeared, ⁓ geopolitical risk has clearly increased. Do we perceive it will remain high? And I find it a little bit fascinating that markets have reacted, but we haven’t had some sort of big move in markets. it feels a bit like this conflict is inherent and people are just factoring that into their risk profile and their psyche already, given the conflicts we’ve seen tragically around the world over the last five or eight months. Is it higher now or will it remain high? How do we think about that?

Tim Rocks 
I think the number one point here is there’s a great mythology around geopolitical stuff. Geopolitical stuff does not matter. You can go back for the last 50 years, 60 years and look at the wars that have occurred and the impact on markets. And the bottom line is they can affect things for three months, sorry, for three days a week. But in a year’s time, ⁓ they have fully recovered. So actually, the best rule of thumb to have in your mind is if market’s selling off for geopolitical reasons, you should be buying. And then the worst thing you can do, which follows on, is sell after one of these events. Because all you’re doing is locking in a loss and you’ll avoid ⁓ the upside from that. So yeah, I think it’s important to think critically when these things happen and think about is this something so different, so unique, so bad that it’s not within that kind of universe of what we’ve been used to for the last 50 years? even on oil, we’ve had spikes in the last 20 odd years. We had the bombing of Kuwait by Iraq, if you remember, back in 91, we had the Iraqi war. We’ve had various other things. You have to go back again to the 70s before the Yonkipul were in 73 for there to be a permanent impact. it’s just, ⁓ we need to be very sensible about these.

David Hay
Yeah, I might say thank you to this and questions coming through so keep that keep them coming And one of them actually will jump forward to the question But it was something we wanted to talk about and pose a question Tim We talked about oil, but what about gas LNG? Is there a knock-on effect with oil to LNG the production the export we produce a fair bit of it? Yeah. Yeah. Yeah, what’s the potential there?

Tim Rocks 
So this is really, really interesting, has not received anywhere near the attention it deserves in the coverage of this. But the gas market is also affected by this. So that’s off Hormuz thing, 25 % of global gas also goes through the straight off Hormuz. Qatar is the world’s largest producer and has temporarily shut some of its facilities. And then the other point that’s critical here is that the ⁓ gas market globally is much much tighter than the oil market. So is going to be much more affected by any disruption. So then you think what that means for Australia. Well, you know, hands up Australia is the world’s second largest producer of gas. We and the know, our companies could potentially be ⁓ winners from that disruption and the extent to which that kind of continues, but that could last longer than the oil disruption.

David Hay 
I sort of touched on the introduction. This could escalate more potentially. We can’t be sure where it’s where or how quickly it’s going to end. But some other countries that you may not have thought were drawn into it would, like UAE. Does that have a knock on effect to markets or Australia if they become angry and start to tell out and join what is the US and Israel at the moment?

Tim Rocks 
Yeah, No, so you’re absolutely right. I mean, I don’t want to sound dismissive as I might have before. We’ve got to think about ways where this could get worse. One way could be, we don’t know who the Iranian leadership is going to be. There’s some rumors around and that might settle, but we don’t know who that is, number one, and how they’ll react. One possibility here is that you get really disorder in Iran that leads to civil war. There is some ethnic minorities that might sort of create some kind of chaos. If that sort of civil war then spreads across its borders, you actually get a broader disruption potentially to oil ⁓ infrastructure. So we need to watch for that. We need to watch nothing bad so far, but how China and Russia perhaps could respond to this. China’s been very quiet on it so far, but you never know. There’s a Russia angle too, which is actually pretty interesting in that ⁓ Russia’s major supplier of weapons is Iran. And suddenly Iran doesn’t have quite so many weapons or weapons production capability anymore. So that’s a potential ⁓ impact for Russia versus Ukraine, but also how Russia responds to that. Yeah, okay.

David Hay 
So that could be an angle of escalation potentially. China relies on Iranian oil level, I believe, Would that have an impact through to us if that supply is disrupted?

Tim Rocks 
So we do need to watch that. I think China will be okay for a while. I’m amazed by this stat, but China has a strategic oil reserve of 1.2 billion barrels. Can you imagine how big that is? I don’t know where they’re storing them. They’ll be storing in X mines or something. But anyway, China could actually, and the reason they’re building that is prepare for some kind of war that you don’t want to think about. But anyway, they can actually do without any oil exports for four months. And they have, so that’s point one, but point two, they have actually been on the front foot with this and they have been broadening their supply base over the last few months as well.

David Hay 
So that four month number comes into if this is a problem issue that potentially has an impact. Gee, I’m like asking you these hard questions. The US, what does it mean for US politics and the US economy? mean, on one hand, I’ve got to fund it. I’ve probably been collecting some tariffs which might help them do it. I’m going to pay that back potentially. So is any of your views on the US, particularly in the political sense, Charles?

Tim Rocks
Yeah. No, Trump is walking a very fine line here. His supporter base might be okay with like one week of something like this, but they will not be happy, number one, if this gets extended. Number two, if there are US casualties. But number three, if the gasoline price goes up, ⁓ there’ll be a whole bunch of Republican… you know, senators and congressmen sitting in swing seats really, really hoping that the gasoline price goes down and not up because you know what happens in the midterms in November, that gasoline price is even one cent higher because that is going to be fought on the cost of living. you know, gasoline is obviously a very large part of the cost of living. it’s a bit of a gamble for him. But and it could end up playing sort of quite badly. I mean, you know, might be, you know, the middle, those midterm elections actually sort of pretty interesting anyway. Maybe one of other things we’re going to talk about is you’ve got to think about all these other things going around in the world and how do we swap this into the others.

David Hay 
moving parts. might add too, Tim mentioned the market’s reaction after those geopolitical events. Talk to your advisor, but there’s actually a list of them that you can have a look at to prove Tim’s point that the world moved on.

Tim Rocks 
So there’s actually in 19 of the last 20, sorry, how you define it in typically, but in 19 of the last 20, the markets have been higher in 12 months time.

David Hay 
Good segue. ⁓ So bringing this together, everything we know today at around midday, ⁓ your view on economies and markets this year, has this event changed those views as we speak?

Tim Rocks
Short answer is no. ⁓ One, because we just don’t think this price effect will stay long enough to be meaningful. But two, there’s so many other things going on for good or bad that are gonna matter a lot more. I mean, if we were gonna think about risks out there to worry about, we would put number one, trying to understand this AI thing and how bad it might be for other companies. But it’s not actually, it’s not just all bad. There’s winners and losers. And the really interesting thing is ⁓ investors and markets are now taking very firm views on winners and losers. And some of that’s gonna be wrong, some of it’s gonna be right. And there’s gonna be plenty of opportunities as they overreact, which is perhaps the story most recently in tech. So that is actually a much more important issue. Second one is probably the whole tariff and trade war thing, which is unresolved. ⁓ And then how Trump deals with that and also the midterm elections in terms of policies sort of stimulus, I think are important issues. But the short answer to your question is no. Generally, we think the outlook for markets is pretty good. It’s a different world from the last couple of years. So, you know, last two years all we need to do is own the Mag-7. We’re not in that world anymore. ⁓ Partly because there’s more bunch of interesting stuff. know, we like emerging markets, commodities and world economy generally is pretty strong. So, you know, we can’t get into all that today, but it’s in our previous notes. So, you know, I think all that stuff is, much more interesting and doesn’t, yeah, it doesn’t really change our view. That’s a pretty benign and good outlook for markets now.

David Hay 
So should investors be thinking around their asset allocation or portfolio positioning as we speak, given those events? you let one of you go that you should be looking through for opportunities if markets get sold off because of the short term nature of that typically. But should they be thinking about their asset allocation or should they potentially just be a little bit more cautious with how they proceed?

Tim Rocks 
I think generally if we’re thinking, you know, putting it all together for portfolios, the number one thing is not to panic and I, it’s too late to sell. And so therefore you should be looking to buy if there are opportunities. Second point is the best way to generally prepare for ongoing geopolitical risk is through diversification if you have a good diversified portfolio, then you are going to be, have a decent amount of resilience locked in for that. Particularly if you have gold, mean, gold’s really interesting here. Gold is, there’s lots of reasons why gold is, know, ⁓ it’s got some upside here, but it also does a very good job in portfolios of tending to go up when everything else is sort of going down. So my advice to clients, I would say is, you know, don’t do anything silly now, but when things have calmed down, always good to go back and have a look to make sure that you do have a broad mix of assets, diversification and the like, and your advisor can help you with that.

David Hay 
Very good, good, very good person. So I’m an investor, equities get sold down. I assume that’s one of the key asset classes if you see the volatility take advantage of. If I haven’t got cash, am I selling some of my income securities, fixed income to fund that or am I selling domestic to fund international? Do you have a view on that or, and we know every investor is different, right? So yeah, do you have a view there?

Tim Rocks 
Yeah. I mean, I think we’re crazy. I mean, I think we’re aware about market weight on equities. Like we’re not saying it’s the best environment ever for being an equity investor because we’ve had such a strong run for the last few years. We are being more selective. And I would say actually the way the markets have evolved over the last couple of months, it’s really become a bit of a stock picking thing, right? You’ve had the fallen angel story, like a whole bunch of these tech companies and also actually healthcare companies have fallen. It’s a bit of a stock pickers market. Other asset classes we like, actually, you know, there’s pretty decent product and decent returns in credit at the moment. So we are picking through that. That’s one thing we’ve been doing a lot as a firm. Identifying some good managers. I don’t think that changes. And then to add to the whole getting some good diversification portfolios, I think part of the real assets, you know, property and infrastructure is looking better now because they’ve had such a challenging sort of few years. So they’re the things where we’re kind of generally looking at in portfolios.

David Hay 
might switch to some questions. ⁓ You just mentioned property sector. of the questions from Trevor was the flow on effect to Australian rates. Is there a property? Is it a positive there? ⁓ Or has interest rates in Australia got more of a direction on the rate sector? ⁓

Tim Rocks 
Yes. Perhaps I could start answering that by talking about the rates outlook because one thing that does affect the way the REITs trade is based on interest rates. ⁓ RBA is an interesting point where they’re in the middle of a hiking cycle. ⁓ I think anything that causes them to wonder about whether there might be a global clothing impact could cause them to pause on that ⁓ So it will probably have to be bigger entities now for them to for that to have an impact but that’s so we’re going

David Hay 
jump in there. Is it inflation and timing that if the oil price increase from instance is inflationary or is it global growth, which is a trade off to time inflation?

Tim Rocks 
Yeah, yeah, no, exactly. Yeah, yeah, yeah. So that’s that’s absolutely balanced. I mean, the challenge for the RBA, which is actually different from the Fed is RBA already thinks there’s a little inflation problem here. So there’s they don’t have much scope to ignore an additional inflation problem ⁓ from from oil prices, particularly if the Aussie dollar goes down as well. And so the Aussie dollar oil price will be going up by a little bit more. So that’s ⁓ the challenge for them from the inflation front. But having said that, they would also be very wary of the global growth outlook. And the way you do that, if you’ve got competing bits of information, the best thing to do is do nothing. That’s why I think that they will probably ride it out. ⁓ And if anything, this is more likely to push out future expectations for hikes. It might affect the US as well. Like US is on the point of cutting. And again, you don’t want extra inflation pressure if you’re on the point of cutting. But anyway, then to bring that back to the read. if anything, is a scenario where interest rates are a little bit lower. So the extent to which that hit that affects the rates, it’s a small positive, but it’s not changing their fundamentals, it’s not changing their earnings, it’s not gonna change asset values, so overall it’s probably not gonna be a big impact.

David Hay 
You touched on one, I’ll paraphrase the question on the Aussie dollar. We haven’t really talked too much about that. Aussie dollars moved from mid 60s to 70 and above. ⁓ What are the implications here for the Australian dollar? And again, in times where markets have been significantly global uncertain, the Aussie dollar is typically been weaker. So where’s your thinking on the Aussie dollar and what investors should be thinking about currently? Everyone’s different with their hedging in their portfolios, but where’s the thinking currently?

Tim Rocks 
Yeah. So you’re absolutely right, in the short term it could go down more. Yeah, it is a risk sensitive currency. Whenever something looks like it might blow up, the Aussie dollar gets shot. You know, those ones you shoot first ask questions later. ⁓ So we just gotta be wary that it could go down a few cents in the short term. But more important thing is where it’s gonna be in 12 months time and we’re pretty sure that that direction is still up that’s supported by very strong outlook for commodity prices and actually energy or gas might be part of that. But there’s other reasons to the whole AI thing and copper and the like. And generally we think that interest rate differential between Australia and US is growing and that supports it. you know, next few weeks aside, the direction is up and the thought for investors should be to have more hedging in portfolio.

David Hay 
Okay. look, Wayne and Tim asked a similar question around AI and some of those names have been solved down. Is the geopolitical risk that we’re experiencing in the very short term adding to that? And should we be concerned about that or shifting through for opportunities in portfolios or sectors to add that into the portfolio mix?

Tim Rocks
⁓ Yeah, I mean, there’s no direct impact on AI from this. The tech stocks might be further sold off if markets really ⁓ get a little bit more panicky. But the question is right, that we should definitely be looking in that tech sector for companies that have been oversold on this fear of the impact of AI on software companies generally. And I’m not saying that AI won’t affect software companies. That’s not the question. The question is the types of companies the market has sold out because they think they’re software companies and they’re not. So we’re not going to talk about individual stocks on this podcast, but if you talk to your advisor, they can show some of the research we’ve done about individual stocks. So suffice to say that there are definitely opportunities being created by the indiscriminate sell-off in this tech sector in Australia.

David Hay
I think we’ve covered most questions. We have one around what sort of, you know, what scenario that could be good for the Australian market. You’ve touched on that with LNG. I assume there’s not other sectors you want to highlight there.

Tim Rocks
⁓ I think, yeah, it probably would be, yeah, the scenario is LNG being good and just generally the market’s selling off. I mean, there’s also, actually, I was gonna make this point before, one of the reasons why geopolitical ⁓ crises don’t matter is they’re actually an economic event, right? war and building missiles is actually economic activity and maybe it’s not the best economic activity and not one you want, but it is actually economic activity. So a heightened area of conflict, which just creates a lot more production and the like is not necessarily bad. And when you’re a commodity producer that builds stuff for steel and the like, it’s actually, the, what’s it best for it’s not just for gases, it’s all kind of commodities. So there is a scenario here where, you know, greater production of all that type of stuff and rebuilding is actually sort good for a commodity complex.

David Hay 
One thing I was going to ask you before we ask you to wrap up. Does it mean potentially gold has another leg up? mean, it’s had a phenomenal run over the last couple of years.

Tim Rocks 
Yeah, So gold’s interesting, actually. And I read a couple of interesting articles that point out that gold was really strong in the 70s. And that’s when we had all these, these, you know, one after another, so oil crises. That was pretty, that’s pretty interesting, because maybe that’s what we’ve got. You know, so that’s certainly been repeated here. But also, there’s all these other reasons to, that are supporting the gold price at the moment, the whole concern about US dollar the fact that all the central banks are buying gold rather than selling their US bonds at the moment. So I think gold is interesting. As I mentioned, it’s always good to have it in your portfolio because it’s that negative correlation there, asset they call it, it always goes up when other things are going down. ⁓ And yeah, lots of other reasons to buy it anyway, another reason you support the Aussie market.

David Hay
I think we’ll wrap it up now, Tim. So if any closing comments that you wanna make for our viewers or our podcast listeners.

Tim Rocks 
Just to reinforce, don’t panic, don’t bother reading the news if it’s going to bother you too much because it’s not really going to affect your portfolio that much. And look for the opportunities and stay close to your advisor to help you identify those.

David Hay
Thank you, Tim. Thanks for your insight and wisdom today and your views. We appreciate it. Thank you for our viewers and our listeners, if you’re one of those. GFB League uncertainty is a time that you might feel unsettled, so please stay close to your advisor. From the strategy team here at Evans and Partners viewpoint, we’ll be closely monitoring developments and we’ll update you and keep you informed ⁓ as things evolve. And thanks to those who posed questions, both in real time and prior to today’s episode. And just a reminder in closing that everything we’ve discussed today is considered general advice for those after personalised advice, as Tim has suggested, speak to your advisor. Enjoy the rest of your day. Thank you.