In high-inflation environments, stocks and bonds tend to move in the same direction, nullifying the diversification benefit of the classic 60/40 portfolio. This forces investors to seek non-correlated returns in real assets like infrastructure, energy, and commodities.

While currently aligned, the long-term interests of Israel and the US in a war with Iran could split. Israel seeks total elimination of Iran's missile threat, implying a prolonged conflict. The US, however, may have less tolerance for a drawn-out war due to concerns about its impact on global energy prices and the economy.

The historical negative correlation between stocks and bonds, which underpins the 60/40 portfolio, breaks down when inflation rises above 2%. In this environment, they tend to move together, making bonds an ineffective diversifier and forcing investors to seek new solutions for equity risk.

The post-Cold War era of stability is over. The world is returning to an 'Old Normal' where great power conflict plays out in the economic arena. This new state is defined by fiscal dominance, weaponized supply chains, and structurally higher inflation, risk premia, and volatility.

The knee-jerk reaction to a geopolitical shock is often a bond market rally (flight to safety). However, if the shock impacts supply (e.g., oil), the market can quickly reverse. It pivots from pricing geopolitical risk to pricing the risk of persistent inflation, forcing yields higher in anticipation of rate hikes.

For 40 years, falling rates pushed 'safe' bond funds into increasingly risky assets to chase yield. With rates now rising, these mis-categorized portfolios are the most vulnerable part of the financial system. A crisis in credit or sovereign debt is more probable than a stock-market-led crash.

With inflation becoming less of a concern in 2026, bond yields will be driven more by growth expectations than inflation risk. This restores their traditional negative correlation with equities, making them a more reliable diversifier and hedge against a potential economic downturn in portfolios with long-risk exposure.

While short-term oil contracts react to immediate geopolitical stress, a sustained rise in longer-dated prices above $80-$85 indicates the market believes the disruption is persistent, signaling a more severe, long-term economic impact.

U.S.-China friction presents a dual threat to bond markets. Near-term growth risks from tariffs and domestic instability could push yields lower. Simultaneously, medium-term uncertainties from higher fiscal deficits, inflation, and AI-related spending point towards a steeper yield curve and higher long-term rates.