Analyzing Trump’s Escalating War in Iran

White House correspondent Jeff Mason, 'The Atlantic' reporter Vivian Salama and Bloomberg's Nancy Cook analyze President Trump’s escalating war in Iran and its political fallout ahead of the midterms on "Bloomberg This Weekend" with Bloomberg’s David Gura and Christina Ruffini. US stocks are facing a growing risk of a sharp selloff this year as the escalating war in Iran hurts global markets, according to veteran strategist Ed Yardeni, updating his outlook for what he describes as “fast-moving times.”

Yardeni has raised the probability of a market meltdown to 35% for the rest of the year, up from 20% previously. At the same time, he slashed the odds of a meltup — a rally driven more by investor enthusiasm than underlying fundamentals — to just 5% from 20%.

The shift in those weightings comes as oil prices surge above $100 a barrel and investors brace for a prolonged conflict in the Middle East that could send energy costs even higher. Expectations for Federal Reserve’s interest-rate cuts have already been pared back as investors come to terms with the prospect of slower growth and rising inflation at the same time.

“The US economy and stock market are stuck between Iran and a hard place currently. So is the Fed,” Yardeni wrote in a note. “If the oil shock persists, the Fed’s dual mandate would be stuck between the increasing risk of higher inflation and rising unemployment.” The dollar has emerged as the haven asset of choice, with the Bloomberg Dollar Spot index up almost 2% since the war began. US stocks have so far seen a milder impact than global peers, with the S&P 500 Index falling 2% last week while MSCI’s broadest gauge of global equities slumped 3.7%.

The resilience can be partially attributed to the fact that the US has greater energy self-sufficiency than other markets such as Asia, according to Wilsons Advisory. Moreover, concerns over artificial intelligence spending and potential business disruption had already taken some wind out of US equities.

S&P 500 futures fell more than 2% in Asian trading hours before recouping some losses as Group of Seven finance ministers are set to discuss a possible joint release of oil reserves on Monday. Meanwhile, hedge funds boosted short positions in US equity exchange-traded funds and the Cboe VIX Index surged to the highest level since April’s tariff turmoil. Yields on the 10-year Treasury rose four basis points to 4.18% as traders priced in higher inflation.

Investors have pushed back expectations for the Fed’s next quarter-point rate cut to September. At the end of February, before the war erupted, traders had fully priced in a move by July. Some bond options traders are now betting the Fed may not cut rates at all this year.

Adding to concerns of a prolonged war, Trump said Sunday evening that the military campaign against Iran was worth any near-term pain because it would deliver lasting benefits, calling $100 oil a “small price to pay.”

Meanwhile, Iran’s decision to name Mojtaba Khamenei, the hardline son of the assassinated Ayatollah Ali Khamenei, as its new supreme leader signaled Tehran won’t back down in the war now raging across the Middle East. The Bloomberg Dollar Spot index rose as much as 0.7% to its highest level since Jan. 16.

Yardeni has gotten market calls right in the past. In December, the strategist recommended effectively going underweight the so-called Magnificent Seven technology stocks versus the rest of the S&P 500.

His base case remains intact. The so-called “Roaring 2020s” scenario, which envisages a decade of robust and sustainable US growth fueled by rapid productivity gains, still carries a 60% probability through the end of the year.

The outlook is better over the coming decade. Yardeni assigns an 85% chance of a continuation of the Roaring 2020s. He also sees a 15% chance of a “stagflating 1970s redux.”

“If investors start expecting stagflation, a bear market is more likely,” he wrote.

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