Record US Stock Rally Is Under Threat From a World in Turmoil

(Bloomberg) — Investors and firms are flagging that the war in the Middle East poses a major risk for earnings as boycotts dampen sales and Red Sea shipping chaos threatens their supply chains.

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Those headwinds pose a danger to the record rally in US stocks, according to a Bloomberg analysis of hundreds of earnings calls. By the halfway mark in the first quarter, the number of references to the Red Sea or “geopolitics” has almost matched the total for the previous three months.

Expectations for profits at S&P 500 companies for the next 12 months are at a record high, suggesting analysts are pricing in a blue-sky scenario with the US economy growing more than expected and the Federal Reserve cutting rates. Any major threat to earnings, or signs that inflation is returning, could impact the months-long rally which has sent the US benchmark to record highs.

Crude prices have already climbed this year in part due to fears the Israel-Hamas war could grow into a wider conflict. At the same time, container ships are being forced to avoid the Red Sea and Suez Canal after attacks by Iran-backed Houthi rebels as part of a campaign against Israel.

“The geopolitical backdrop is a risk,” said Nicole Kornitzer, portfolio manager of the Buffalo International Fund at Kornitzer Capital Management Inc. “If the pressure continues for longer, this could weigh on corporate margins and be inflationary as costs are passed on through price increases. This kind of scenario is not in estimates.”

From consumer goods companies, to social media, to freight firms, Bank of America Corp.’s latest fund manager survey also showed that investors see geopolitics as the second biggest risk to share prices after inflation, although the two dangers are connected — participants expect a further escalation in the Red Sea or Middle East to add new price pressures higher oil and freight rates.

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