Uncommon truths: Inflation risks and investment consequences

Rising energy costs are leading to fears of higher inflation; historically a difficult environment for financial markets. We suspect any jump in inflation will be short-lived but that will ultimately depend on how long energy prices stay high and whether other prices and wages follow them upward. 

Investor conversations are naturally dominated by the situation in the Middle East. It is hard to give definitive answers when resolution of the conflict relies on the decisions of three actors that are not always acting in ways that follow military and economic logic (emotions are running high). However, the global economy and financial markets have to live with the consequences. 

For the moment, markets are focused on energy price developments. When oil is up, literally everything else is down and vice-versa. This once again shows the strategic diversification properties of broad commodity exposures, a point that I emphasised last July in The strategic role of commodities. We had been Overweight energy since March 2025, in the belief that global economic acceleration would support industrial commodities. However, we recently took advantage of the jump in prices in early March to reduce the energy allocation to zero (see Figure 6). 

Whether that proves to have been the appropriate decision will depend, I think, upon how long it takes to restore a reasonable flow of energy from the Middle East. The cleanest way for that to happen would be a cessation of hostilities as part of a three way peace plan (US/Israel and Iran). Another would be if Iran allowed more ships to pass through the Strait of Hormuz (and/or a coalition of countries were able to ensure safe passage), at the same time that Saudi Arabia was able to fully use its Red Sea Gateway Terminal at Yanbu (it’s pipelines can carry around 7 million barrels a day to that port -- around 70% of its early 2026 output). That latter point relies on Houthi rebels not attacking those ships. 

For the moment, the gain in oil prices is a concern, with Brent up around 58% since the end of February 2026 and WTI up around 51% (as of 27 March 2026, based on first futures contracts as reported by Bloomberg). Natural gas markets are more regional than oil, so the price gains have varied enormously. For example, UK natural gas is up around 73% (first future), while US natural gas is up only around 5%.

The short-term impact on inflation rates will depend on the weighting of energy within CPI indices, and that varies by country and region. For example, energy had a weighting of 6.3% in the latest US CPI release (roughly half energy commodities and half energy services such as utilities, according to US Bureau of Labor Statistics data), whereas in the eurozone it is around 9.0% (according to Eurostat data). The latter is interesting in light of the fact that Spain is one of the few countries to have so far published March CPI data, with a rise in the year-on-year rate from 2.5% in February to 3.3% in March (using EU harmonised data). Other countries to have published March data (Brazil, Iceland and Zambia, for example) have seen smaller (if any) rises in inflation rates.

Of course, the effect on inflation will also depend on the duration of the rise in energy prices. Figure 1a shows that previous similar spikes in WTI led to a rapid but temporary uptick in US headline inflation. Looking at the 2015-20 period, in episodes in which the y-o-y gain in oil approached 50% (as now), the uplift in US CPI inflation was in the region of one percentage point. 

If repeated this time, that could see US headline CPI inflation at around 3.5%. That doesn’t sound encouraging, as it would take inflation further from the 2.0% target level. However, if the uplift in energy prices only lasts for a few months, I suspect that headline inflation would soon fall back below 3.0%.

There is evidence that markets remain of the same opinion. Medium to long-term US inflation breakevens have hardly moved during March. The 5-year breakeven had risen to 2.56% as of 27 March 2026, from 2.40% at the end of February, taking it to near where it was at the end of January (as measured in the treasury market). The 10-year breakeven has moved even less and is now at 2.34% (below the end-January level). That should be a comfort to the Fed.

One reason for the relative comfort about the inflationary impact of the recent surge in oil prices could be that the oil forward curve is in steep backwardation. Though the Brent 1-month future is $112.5 (as of 27 March 2026), the 1-year Brent future is at $94.8 (+34% since the end of February) and the 3-year future is at $75.7 (+15%). Hence, the oil market itself is suggesting the oil price hike will be short-lived. I think that makes sense, if for no other reason than a lengthy rise in price could dampen economic activity, thus reducing the demand for oil.

More worryingly, Figure 1a also shows the example of 2022, during which Russia’s invasion of Ukraine led to a much bigger increase in oil and gas prices than we are currently seeing. The US oil price more than tripled (y-o-y) and US CPI inflation touched 9.1% (UK inflation rose to 11%, boosted by the effect of rising gas prices on electricity tariffs). However, I would contend that inflation was already on the up at that time, after government and central bank policies led to an acceleration of monetary aggregates (see Figure 1b). I doubt the uplift in inflation will be anything like the 2022 episode, partly because I don’t expect a tripling of the oil price and partly because the monetary backdrop is nowhere near as accommodative of inflation as it was then. Even better, US shelter inflation is no longer acting as a brake on disinflation, as it had over recent years (see Figure 1), suggesting that once energy prices fall, headline and core inflation can continue downward.

However, if I am wrong and inflation goes much higher for much longer, Figure 2 suggests it will be hard to find assets that perform well. Historical correlations show that most US assets have suffered when inflation is high and/or rising. The few exceptions are commodities (but I suspect the causality runs from commodities to inflation) and gold (though not for the shortened period since 1987). Surprisingly, cash has done better than most other assets, probably because its lack of duration is useful when rates are rising.

Finally, when looking for signs that inflation will be more durable than suggested above, I will be watching: how long energy prices remain elevated (oil above $100, say); the transmission to non-energy components of consumer price indices (i.e. the generalisation of inflation) and signs of a rise in wage inflation. Absent those signals, I expect markets to recover much of the recent losses during Q2.

All data as of 27 March 2026, unless stated otherwise.

Investment risks 

The value of investments and any income will fluctuate (this may partly be the result of exchange rate fluctuations) and investors may not get back the full amount invested.