Fool Me Twice? The Dual Shock Now Facing Equity Markets

Five weeks into the war, markets that were already potentially facing a reckoning on AI investment returns now also face the possibility of a sustained energy shock. Either alone could be manageable but put together the outlook is deeply concerning.

“Fool me once, shame on you. Fool me twice...". For weeks, equity markets seemed to treat the Gulf conflict as a rerun of Liberation Day, betting that the pattern of escalation followed by retreat would hold. That bet is looking increasingly fragile.

The US would be especially vulnerable if this leads to a global recession. The economy is running structural deficits during what has been a period of robust growth. A recession would cause a decrease in revenues and an increase in outlays via economic stabilisers. A spike in interest rates driven by a potential funding crisis or resurgent inflation would make the servicing cost on that debt considerably worse. 

Nobody likes to invoke the spectre of another Global Financial Crisis (GFC), but this scenario feels like a possibility if the conflict continues to pressure the energy complex. Given elevated equity valuations, particularly in the US where the Shiller CAPE ratio stood at roughly 39 at the beginning of March against a 40-year average of 25, slower growth and more normal valuations could result in a 30% drawdown¹ from pre-war peaks (note the S&P 500 currently sits about 9% off its all-time high). 

This is not a forecast, but sits in the realm of possibilities at a higher probability than one would like. Even at 10 to 20%, this tail risk is, frankly, still a bit scary, even to a seasoned market observer.

The stagflation trap

If the war drags on for significantly longer, or energy infrastructure sustains even more damage, or both, a ceasefire would not negate a sustained shortage of energy.

The market spent the first month of the conflict focused on inflation. Higher oil, higher costs, higher rates. Last week, a different fear surfaced: that the drag on growth may overtake the inflation impulse.

We believe this is the question that matters most for investors right now. If central banks raise rates to fight energy-driven inflation, they risk crushing an already weakening economy. If they hold or cut to support growth, they risk letting inflation expectations become entrenched. The 1970s showed what happens when policymakers get this wrong.

The 1970s echo

One does not have to be a bear to find the chart below uncomfortable. It compares the dual inflationary spike of the 1970s with the inflation pattern of the 2020s. With oil above US$100 now and the Strait of Hormuz under Iranian control, it could be déjà vu.

The 1970s saw inflation peak, fall back and then spike again as energy shocks compounded. US CPI peaked at 9.1% in 2022, fell back to 2.4% by February 2026 and it now faces renewed upward pressure from sustained energy costs, not to mention the increasing energy demands of AI and potential materials shortages.

Figure 1. Uncomfortable inflation and recession echoes

Source: Federal Reserve Bank of St Louis, as of 26 February 2026.

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What our model tells us

Our proprietary Macroscope model, which scans historical market regimes for similarities to the current environment, has shifted notably in recent days. For the first few weeks of the conflict, the model was largely unmoved. It is now identifying the current regime as most similar to early 2011, a period of late-cycle expansion with rising commodity prices (oil was above US$110) and elevated inflation expectations. The second closest match is late 1999, just before the Dot-Com peak: strong growth, rising rates and richly valued equity markets driven by momentum.

The most dissimilar periods in the model's dataset are uniformly characterised by deflation fears, falling commodities and a strong US dollar. So, our model is pointing to a reflationary shock. Whenever we quote our Macroscope we highlight that history never repeats, but it does tend to rhyme.

The bottom line

The current conflict involves variables that previous episodes did not: physical infrastructure, maritime chokepoints and an adversary with the means to sustain disruption at low cost. This author does not like to be bearish, and is hopeful that the mounting costs of the war, both human and financial, will bring some sort of resolution sooner rather than later. Historically, the resolution of geopolitical conflicts has been deeply bullish for risk assets.

But the increasing tail risk demands investor attention and concern. We are at nearly two decades of buying the dip being the right strategy; hopefully that is still the case.

All data Bloomberg unless otherwise stated.

Author: Dan Taylor, Chief Investment Officer, Man Numeric.

1. The Shiller CAPE (Cyclically Adjusted Price-to-Earnings) ratio is a widely used measure of equity market valuation developed by Nobel laureate Professor Robert Shiller of Yale University. It compares current market prices to the average of inflation-adjusted earnings over the previous ten years. The ratio measures how expensive the stock market is relative to its own history. At the beginning of March 2026, it stood at approximately 39, well above its 40-year average of 25. The ratio is updated monthly, so the March reading does not yet reflect the subsequent sell-off. A reversion to its 40-year average of 25 alone implies a drawdown of approximately 30%.