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14 Jul 2026 | 3 minutes to read
(All equity data is MSCI; all data in sterling unless stated)
The ceasefire in the Middle East broke down last week, as the US and Iran re-engaged in military strikes. Last month, US president Donald Trump declared hostilities over and the two nations signed a Memorandum of Understanding, providing a window for further negotiations while the Strait of Hormuz could re-open. Market sentiment was buoyed on the back of that agreement, but the geopolitical barriers to a conclusive resolution were always high, and the prospect of the tentative truce breaking down has been evident. Unsurprisingly, investor sentiment deteriorated as oil prices rose once again.
For now, the market reaction has been relatively muted, with investors perhaps becoming increasingly tolerant of the regular flow of geopolitical shockwaves. Brent Crude ending last week at around $76 per barrel – some way below the $100-$115 per barrel levels witnessed earlier in the year. Equity and bond markets broadly declined – although a partial recovery late in the week saw US stocks end the week in positive territory in sterling terms. President Trump claimed the Iranian government had contacted the US requesting further peace talks, but no progress is yet apparent.
The development will further complicate the conundrum for policymakers. The possibility of the Federal Reserve (Fed) and the Bank of England (BoE) hiking interest rates to address inflationary concerns had diminished, but another energy shock would muddy the waters. If commercial traffic through the Strait grinds to a halt, central bankers will again need to balance weaker economic activity against inflation remaining elevated for longer, and potentially becoming more entrenched.
The latest NATO Summit held in Turkey last week saw the Alliance review defence commitments and address key security challenges. Member states noted progress towards the defence spending target of investing 5% of GDP in defence and defence-related activities by 2035. Significant increases in core defence spending by European allies and Canada were noted, alongside announcements of more than $50bn in new defence procurement programmes and $80bn more to support Ukraine. The Alliance reiterated its support for Ukraine’s sovereignty and territorial integrity, although there was no announcement around future Ukrainian membership. The post-summit statement also called on Iran to open the Strait of Hormuz. NATO’s industrial resilience, a commitment to increasing innovation and technology adoption across the Alliance, and the broader issue of energy security were also addressed.
Although US President Donald Trump ultimately declared it an “tremendously successful summit”, earlier comments again suggested that US support for NATO should not be considered unconditional under this president. Trump questioned some allies’ commitment to defence spending, expressed disappointment that NATO did not join the Iran war effort, and again repeated his view that the US should take control of Greenland. Trump even reiterated a threat to halt to all trade with Spain due to dissatisfaction over NATO spending.
Minutes from the Federal Reserve’s June policy meeting showed officials were divided on the future direction for US interest rates. In his first meeting as Chair last month, Kevin Warsh described the debate as a “family fight” over the direction of rates. Despite differing views as to the likely path ahead, the Federal Open Market Committee (FOMC) did unanimously vote 12-0 to keep rates unchanged at 3.5%–3.75% in June – where they have been throughout 2026 to date. The minutes offered few clues as to the timing of future rate moves, with policymakers stressing that decisions will depend on incoming economic data. The minutes were also somewhat shorter than is typically the case, reflecting Warsh’s stated desire for tighter messaging and much reduced forward guidance.
Warsh faces a challenging balancing act. Headline US inflation is currently above 4%, while public finances continue to deteriorate. The federal budget deficit shows no sign of improving, with debt-to-GDP already over 120% and rising. President Trump has repeatedly called for lower interest rates and was a vocal critic of former Fed Chair, Jerome Powell, suggesting he had kept monetary policy too restrictive for too long, to the detriment of the US economy. Warsh is in the very early stages of his term as Fed chair, having been nominated by Trump, but since taking the reins Warsh has adopted a more hawkish tone than some expected, with a focus on inflationary pressures.
US Treasury bonds fell last week, as yields moved higher. Higher oil prices combined with the slightly hawkish Fed tone to again raise market expectations of interest rates remaining higher for longer. The yield on the benchmark 10-year US Treasury rose from around 4.49% to c.4.56%. Higher borrowing costs will further elevate the costs of servicing the national debt.
With Andy Burnham now expected to assume leadership of the Labour party and enter Number 10 unopposed, the focus on his approach to fiscal policy will become more intense. And questions around the future direction of UK public finances are becoming increasingly salient.
The latest fiscal risks and sustainability report from UK fiscal watchdog, the Office for Budget Responsibility (OBR), has further highlighted the challenges at hand for any future prime minister and chancellor. The OBR suggested that without early fiscal adjustment, public debt could eventually reach an “unsustainable ever-upward path”.
Demographic pressures from an ageing population, higher health and welfare spending, and higher defence spending will – on current forecast trajectories – bring huge pressure to bear on UK public finances. Further external economic shocks, or any deviation from existing plans to narrow the budget deficit, would only accelerate matters. The fiscal plans of current chancellor, Rachel Reeves, had been forecast to stabilise the UK’s debt-to-GDP ratio, although the impact of the Iran war could well erode the “headroom” she had built up against her fiscal rules. While Burnham has recently suggested he would continue to adhere Reeves’ fiscal rules, adherence is partly reliant on factors no government fully controls – such as economic growth materialising at a certain level and tax receipts being fully realised. Furthermore, any recent attempt to cut back on welfare spending has been blocked by the left of the parliamentary Labour party, many of whom have since endorsed Burnham.
As with any projection, uncertainty pervades. Although the need for longer term planning is increasingly clear. Greater defence spending and capital deployment on infrastructure projects could be catalysts for growth. And stronger growth should also stabilise the debt-to-GDP ratio, or even see it reduce. Burnham has been relatively tight-lipped with regards to policy direction recently, but the prospect of still higher borrowing, taxes and spending remains a concern for investors.
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