Good afternoon,

Conflict in the Middle East is beginning to shape expectations for growth, inflation, and interest rates in a more meaningful way. While the situation is still evolving, we are starting to see early signs of how it could flow through to the economy and markets.

As we move into the fourth week of what was initially framed as a short operation, time has become the key uncertainty. Messaging from the US has been inconsistent, and Iran appears in no rush to bring tensions to a close, which makes it difficult to form a clear view on duration. There was a more constructive development this week with a temporary pause in strikes and the introduction of a proposed framework for de-escalation, though it remains unclear whether this leads to anything more substantive. For now, both sides appear to be weighing their next steps carefully.

Markets have responded primarily through commodity prices, with oil acting as the main transmission channel. While the global economy has absorbed higher energy prices in the past, the pace of this recent move, alongside concerns around key trade routes, creates a more complex backdrop. Until there is better visibility on both the path of the conflict and the direction of energy prices, it is likely that volatility persists.

Coming into this period, the global economy had been showing signs of improving momentum, with business activity strengthening and economic data generally surprising to the upside. More recent data suggests some moderation. In the US, growth appears to be easing, with some softness in services and upward pressure on costs. Manufacturing has held in better, supported in part by inventory building. Europe has shown slight slowing and higher costs, given its reliance on imported energy. At this stage, the data still points to continued expansion, though at a more measured pace, which is no surprise for us.

Interest rate expectations have adjusted accordingly. Markets have reduced expectations for rate cuts as higher oil prices feed into near term inflation. While this reaction is understandable, it may overstate the lasting impact. Higher energy costs tend to weigh on demand over time, which can act as a natural offset to inflation. Central banks appear to recognize this balance, with most holding rates steady and emphasizing a more patient, data dependent approach. In both the US and Canada, policymakers are watching the same cross currents of moderating growth and still elevated, but gradually improving, inflation.

Corporate fundamentals remain relatively constructive. Earnings expectations for the year are still solid, and while analysts have become more cautious at the margin, estimates have not meaningfully deteriorated. That said, expectations are still very high, and markets will need to see those results delivered to maintain the support of valuations.

Against this backdrop, the recent volatility is not at all surprising. In many ways, it reflects the type of environment we had been anticipating. We began shifting the portfolio to a more defensive position several months ago, recognizing that markets were vulnerable to a change in conditions after a strong run. That positioning has helped provide our client with stability through this period.

We are watching developments closely for signs a clearer outlook and for risk to be more appropriately priced. There will be opportunities to lean back in, but we do not believe we are there yet.

Periods like this can feel uncomfortable, but they are also a normal part of investing. Staying disciplined and focused on long term objectives remains the most important factor, particularly when uncertainty is driving short term market moves. As always, we are monitoring conditions carefully and will adjust positioning as the opportunity set improves.

Please feel free to reach out at any time if you would like to discuss.

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