The Tragedy of the Persian Gulf: From Oil Price Shocks to Growth Damage

EXECUTIVE SUMMARY

The core issue behind this round of global market volatility is not simply the size of the rise in oil prices, but whether the efficiency of the Strait of Hormuz—a critical global energy and key industrial raw-material shipping chokepoint—continues to be impaired. The market impact of higher energy prices is shifting from the first-stage price shock (pushing up inflation and interest-rate expectations) to the second-stage supply shock (channel disruption, raw-material shortages, output contraction, and impaired growth). The nature of the risk has evolved from “cost inflation” to “supply shortfall,” and the transmission mechanism of the shock to the global economy has changed fundamentally.

Why is this energy crisis more likely to evolve into a recession rather than a broad-based stagflation scenario? The key lies in differences in the economic environment, inventory buffers, and policy space. The Strait of Hormuz is currently facing a “hard disruption,” and U.S. manufacturing inventories are already at historic lows, exhausting corporate buffer capacity and directly hitting production and order fulfillment. At the same time, the current demand environment is weak; the pass-through from PPI to CPI lacks sufficient support, and high oil prices cannot be absorbed as easily—so they are more likely to quickly suppress consumption and investment. Overall, cost-driven inflation may be severe, but its duration is limited.

What macro expectations is the market trading right now? The interest-rate market (especially the front end) appears to be starting to price in more stubborn inflation and a more hawkish central-bank policy, and there are signs of some tightening in market liquidity. Stagflation trades in equities have been triggered, and markets have already partially reflected expectations of slower growth—cyclical sectors are clearly underperforming defensive sectors, but the risk of downward growth revisions has not been fully priced in.

Whether we move into a full-blown recession trade next—there are three things to watch: 1. Far-dated oil and gas futures prices continue to rise, not just a spike in the front end; 2. Cyclical sectors relative to defensive ones, with technology continuing to weaken; 3. The AI chain no longer provides a safe haven, and high-valued assets experience a further sell-off.

MAIN REPORT

1. Understand the essence of the conflict: from “prices” to “the shipping channel”

The core issue behind this round of global market volatility is not simply the magnitude of the rise in oil prices, but whether the efficiency of the Strait of Hormuz—this critical global energy and key industrial raw-material shipping chokepoint—continues to be impaired. Energy assets are undoubtedly the biggest beneficiaries, but their impact on the market is shifting from the first-stage price shock (driving inflation and interest-rate expectations higher) to the second-stage supply shock (channel disruptions, raw-material shortages, output contractions, and impaired growth). The risk nature has changed from “cost increases” to “missing supply,” and the shock transmission mechanism to the global economy has undergone a fundamental change.

As a key transportation hub for global energy and basic chemical raw materials, the Strait of Hormuz handles about 20% of global seaborne oil, 30% of seaborne crude oil trade volume, and about 20% of liquefied natural gas (LNG) trade volume. In particular, in Asia, roughly 13.2 million barrels of crude oil imports per day need to pass through this area, accounting for nearly 50% of Asia’s total crude oil imports. Major economies such as China, India, Japan, and South Korea are highly dependent on it, and the smooth operation of industrial production systems is tightly linked to the functioning of this corridor.

This means that the ongoing blockade of the Strait of Hormuz is no longer gradually evolving from “high oil prices” to “oil shortages.” When crude oil prices are very high but supply can still be obtained through certain means and can meet production needs, high oil prices will be absorbed and diluted across production stages—resulting in an inflation problem. But if crude oil supply is rigidly cut off, then the resulting issue is output and growth.

From an energy perspective, both the Strait of Hormuz and the Russia pipeline are important energy arteries. During the Russia-Ukraine war, Western countries such as the U.S. and Europe imposed import sanctions on Russian oil, but it can be rerouted globally through “origin washing” via India/Turkey, and supply risks can be mitigated by shifting major crude oil exports to Asia. However, the closure of the Strait of Hormuz is a rigid shock to energy supply, with no alternative solution. At the same time, Asia is a major export destination for Middle East crude oil; therefore, if the Strait of Hormuz is locked down for the long term, crude oil supply in Asia will be in shortage. Further, the supply of LPG, naphtha, and methanol will be under synchronous pressure, and the propylene and plastics markets will face severe supply-demand mismatches.

Why is this energy crisis more likely to evolve into a recession rather than broad-based stagflation?

Historically, oil prices peaking tend to coincide with inventory cycles peaking. In 2005–2008, the global economy developed rapidly; in 2010–2011, after the financial crisis, globally accommodative policies stimulated economic recovery; and in 2021–2022, during the pandemic, there was another round of easing stimulus. In these cycles, corporate inventory behavior was more likely to be defined as proactive restocking, with inflation and high demand occurring at the same time.

Compared with the Russia-Ukraine war, the current rise in energy prices driven by the U.S.-Iran conflict is unlikely to trigger large-scale inflation.

The core difference lies in the economic environment, inventory buffers, and policy space. During the Russia-Ukraine conflict, the U.S. economy was in an inflation-up cycle due to a low-interest-rate environment; the labor market was tight; households had ample excess savings; and companies went through an active restocking cycle. Energy supply shortages caused by the war could be resolved to some extent through trade diversion—i.e., a “soft disruption.” This made energy price increases more likely to trigger a “wage-price spiral,” leading to mid-term stagflation. By contrast, the current U.S.-Iran conflict faces a “hard disruption.” A long-term closure of the Strait of Hormuz would rigidly cut off roughly 20% of global seaborne crude oil supply, and U.S. manufacturing inventories are already at historic lows, leaving companies with no remaining buffer capacity. The rigid shock to the supply chain will force firms to passively run down the remaining inventories with little else, directly damaging production and order fulfillment. At the same time, the current demand environment is weak; the pass-through from PPI to CPI lacks sufficient support; high oil prices cannot be digested and are more likely to quickly suppress consumption and investment, pushing the economy directly into recession rather than stagflation. Overall, cost-driven inflation may be intense, but its duration is limited.

Against the backdrop of businesses worldwide generally adopting low inventories and lean supply-chain management, there is a notable lack of supply-chain buffer redundancy. If the disruption to this corridor lasts for several weeks, it will significantly raise global recession risk: first, key production inputs face passive depletion, forcing companies across each link of the supply chain to de-stock; second, firms’ production plans are forced to adjust due to shortages, leading to lower capacity utilization and delayed order deliveries; third, cost pressures and supply constraints create a double squeeze, and economic problems will spread from inflation to a real contraction in output.

Therefore, the continued stability of this corridor has become a key variable that cannot be ignored when assessing global macro and supply-chain trends. As long as the Strait of Hormuz does not reopen for navigation, oil and chemical product price increases are inevitable, regardless of whether Trump provides negotiation signals. Further, a long-term blockade of the strait will trigger a recession that can be anticipated— even if it does not enter a phase where GDP growth is negative, the slowdown in economic growth is relatively certain.

2. Market reaction—stagflation or recession

Judging from recent price volatility in oil and gold, the market’s initial reaction followed the classic pattern: geopolitical conflicts push up oil prices—raising inflation concerns—leading to higher interest-rate expectations. This logic has already been reflected relatively fully in the early trading. Looking at more recent market performance, the interest-rate market (especially the short end) seems to be starting to price in more stubborn inflation and a more hawkish central-bank stance, resulting in a stronger U.S. dollar. Market liquidity has shown signs of some tightening.

Meanwhile, gold and crude oil move in the same direction, implying the market’s expectations for a global economic downturn; recession trades are appearing or at least emerging at the outset.

The stock market is already reflecting expectations of slower growth—cyclical sectors are clearly lagging defensive sectors, which is a clear signal. However, as stated in Part One, the shipping efficiency of the Strait of Hormuz is the key bottleneck in this round of developments. If the navigation interruption continues for a longer period, the core issue facing the energy market will upgrade from price spikes to actual supply shortages, which would weigh on the global economic expansion—meaning the crisis enters a deeper stage. But at present, market sentiment remains focused on short-term cost fluctuations and has not yet responded sufficiently to potential growth slippage.

On the equity market side, the risk of downward growth revisions still has not been fully priced in. Cyclical stocks’ weak performance, and growth-sensitive segments such as small-cap stocks—although they have pulled back, they have not collapsed—indicates the market is still clinging to hope, betting that the geopolitical conflict can be resolved soon. Multiple instances of bargain-hunting and rebound behavior across market indices also suggest this.

Stagflation trades are easy to trigger. In the early period of the Russia-Ukraine war, the market priced in the “stagflation” outlook driven by geopolitical conflict through sharp industry differentiation and style rotation. Even though major style indices generally fell—especially small-cap and growth styles sensitive to growth and liquidity—reflecting deep concern that the economy could fall into recession; the more crucial point is that at the industry level, the extreme divergence pattern of “energy outperforming while consumption broadly underperforms” signals that the market’s trading logic is fundamentally “stagflation”—that is, simultaneously pricing in supply-side inflation pressure from war and the risk of a decline in aggregate demand.

Overall, during the Russia-Ukraine period, risk-off sentiment was released more fully—whether that sentiment corresponded to “stagflation” or “recession,” the market did not bet on the war ending quickly. Inflation was fully priced on the energy side, while recession was fully priced on the technology and consumption sides. But now, equity assets are still half-heartedly pricing whether the conflict can be resolved quickly. This is what we said in Part One: if recession expectations become confirmed, what follows is another sell-off of risk assets.

What is worth noting is that the repricing by style and industry has deviated from the actual situation. In this conflict, the communications sector and related technology sectors have an independent price action. Although AI-related assets were not able to fully avoid market volatility, they displayed stronger relative resilience than traditional cyclical sectors. The core reason is not that macro concerns have faded, but that the AI capital expenditure mainline is still sufficiently strong to offset some growth doubts at the margin.

With AI capital expenditure staying hot, CPO, optical-communication modules, storage, copper interconnects, and other areas are still relatively resistant to declines (the communications sector’s drawdown is close to 0). This actually points to a basic view: as long as the overall trend of AI investment does not undergo a fundamental change, the technology sector will remain a growth choice that capital prefers to allocate to. Therefore, the key question in the next stage is not whether tech stocks can quickly break above prior highs, but whether—if macro pressure continues—the AI-related spending chain will slowly evolve from the current safe harbor into a stampede-style liquidation.

In other words, even if the initial inflation trade has been priced in rather fully, the main disagreement in the second-stage trade is whether things will move toward stagflation or toward recession.

For whether the market will enter a full-blown recession trade next, we look at three aspects: 1. Far-dated oil and gas futures prices continue to rise rather than only a front-end spike; 2. Cyclical sectors relative to defensive ones, with technology continuing to weaken; 3. The AI chain no longer provides a safe haven, and high-level assets suffer further declines.

3. Forecasting the performance of major asset classes under rising oil prices

In the short term, the performance of major asset classes is highly correlated with geopolitics. However, the geopolitical storyline is uncontrollable and random. Overall, referring to asset performance during the Russia-Ukraine war, oil prices in the short term are likely to remain high with elevated volatility, and major asset classes’ sensitivity to oil prices and war information is still high. From a medium-term perspective, as the intensity of the war declines, the market will gradually become desensitized to related information, and assets will increasingly revert to being priced based on fundamentals.

In the medium term, the oil price midrange will remain high and will suppress most financial asset valuations through the “inflation—policy—growth” three channels, with only energy assets directly benefiting. First, oil prices directly and indirectly push inflation higher, suppressing bond prices and growth stock valuations. Second, inflation stickiness delays the timing of Federal Reserve rate cuts, which directly weighs on technology stocks and long-duration assets that are most sensitive to rates. Third, sustained high oil prices erode corporate profits and squeeze households’ real consumption, which may put pressure on cyclical stocks and credit bonds. Energy stocks and commodities as direct beneficiaries should perform relatively better, while gold may show a neutral pattern as it trades between “fighting inflation” and “facing pressure from high real interest rates.”

For crude oil, earlier on, Brent and WTI as Atlantic benchmarks did not truly reflect the impact of the Strait of Hormuz’s blockade due to transportation lags and inventory effects. What can truly reflect physical shortages is the Middle East crude benchmark—Dubai/Oman crude spot price. That oil price has reached above $170 per barrel at its peak. With recent Trump TACO, Middle East oil prices have pulled back somewhat, but there remains a gap versus the Atlantic benchmark. As long as the Strait of Hormuz is not reopened, oil prices are expected to maintain an upward trend, and the overall WTI crude price midrange is expected to be around $100–$105.

The WTI contract spread between May and June and the spread between July are gradually converging, but they have not converged toward the spread between the nearest February months. At present, pricing for the reopening of the Strait of Hormuz appears to remain within the window between February and May; attention should be paid to the timing of the convergence of the forward contracts.

For gold, in an environment of market panic, investors often sell liquid assets first (such as gold and U.S. Treasuries), so after the conflict broke out, gold prices fell sharply. However, due to Trump TACO, this week gold prices rebounded to some extent. Still, gold’s implied volatility has reached high levels again. The reason is that even though liquidity risk has been reduced, due to the repeated changes in the geopolitical situation, short-term uncertainty remains relatively high.

If fighting continues to fluctuate again in early April, gold may test lows a second time; we will need to verify the sustainability of central bank gold purchases afterward.

In addition, the largest aluminum producer in the Middle East, UAE-based Emirates Global Aluminium, has been targeted: its Talawira production facility in the Abu Dhabi Khalifa Economic Zone was attacked by Iranian missiles and drones, suffering severe damage, and aluminum prices may continue to move higher. Emirates and Bahrain in the Middle East are important aluminum-producing countries. Damage to UAE aluminum plant facilities will lead to direct shutdowns or reduced production. Meanwhile, the suspension of the Strait of Hormuz may reduce the efficiency of importing upstream cathode/anode materials and exporting downstream primary aluminum. Therefore, tight conditions for overseas capacity/electrolytic aluminum supply in the short term may worsen, and room for aluminum price upside will open.

For equity assets, when we replay the performance of U.S. stocks after several war crises, we can find: (1) directions with excess returns during crises: first, oil, precious metals, and defense manufacturing catalyzed by war; second, telecom and tobacco as safe havens; third, areas with strong industrial trends—such as technology around the early 1980s; consumption and healthcare around the 1990s; and technology in the late 1990s; (2) excess returns of oil and natural gas typically follow the pattern of oil prices topping and then topping again; (3) if oil prices remain at high levels for a long time after an oil-price pulse, it is necessary to further judge the magnitude of the inflation and demand shocks— the first oil crisis was a negative case, and the second oil crisis was a positive case; (4) if an oil-price pulse falls back, after a brief reaction to war factors, markets usually return to the existing operating trajectory, and even capital may concentrate toward directions with more certain economic prospects—for example, consumption in the early 1990s and technology in the late 1990s.

For China’s A-shares, this round of adjustment is more an exogenous shock and sentiment-driven selloff caused by geopolitical conflict, so investors do not need to be overly pessimistic in the short term. In the mid-level view, there are two main lines to watch:

(1) Industry chains with a pricing-up logic due to supply constraints—such as industry chains represented by petroleum-chemicals in each segment; metals represented by aluminum and nickel, where supply contraction exceeds demand shocks; and an agricultural supply-chain that gradually causes supply contraction as higher prices of urea (fertilizer raw materials) lead to lower fertilizer usage;

(2) New energy with independent industry trends (distributed storage and large-scale storage), domestic AIDC, fiber optics, etc.

This article is sourced from Chenming’s strategy deep thinking

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