Fed hawkishness and stretched valuations offset Iran deal relief, Deutsche Bank says Proactive uses images sourced from Shutterstock
Despite the interim US-Iran deal and a considerable fall in oil prices, risk assets have barely moved, with the S&P 500 still beneath its record high from early June and credit spreads widening.
The puzzle reflects four competing forces, Deutsche Bank analyst Henry Allen argues.
First, the Federal Reserve’s hawkish pivot last week has pushed up real yields, counteracting the initial relief from the geopolitical breakthrough.
The US 10-year real yield closed at 2.22% on Wednesday after the Fed decision, its highest in over a year, whilst Germany’s equivalent hit a five-month high of 0.89%.
Second, markets had already priced in a temporary resolution to the conflict through oil futures curves, limiting the upside potential once a deal was actually reached.
Third, risk assets staged a historically powerful rally over April and May, with the S&P 500 gaining 16% in two months, a move not seen since World War II except in post-recession bouncebacks or just before the 1987 Black Monday crash.
The CAPE valuation ratio has now reached its highest level since 2000, the dot-com bubble era.
Fourth, structural supply constraints remain unresolved despite the interim agreement. Tanker traffic through the Strait of Hormuz, which carried 20–25% of global oil before the conflict, remains a fraction of pre-crisis levels. Brent crude is still around 30% above its January level despite the deal.
Deutsche Bank tempers concerns about near-term weakness, noting that stronger-than-expected growth and resilient labour market data underpin the Fed’s hawkish repricing.
If Fed rate moves reflect upside growth surprises rather than deteriorating fundamentals, markets can weather the shift. Moreover, circuit breakers prevent the mechanical crash dynamics that defined 1987, and the year-to-date S&P 500 gain of 10% is far shallower than the 39% seen before Black Monday