At the same time, he sharply lowered the chances of a market melt-up, where stocks surge largely on investor optimism rather than strong fundamentals, to 5% from 20%.
The reassessment comes as crude oil prices have climbed past $100 per barrel and investors grow increasingly concerned that the conflict in the Middle East could drag on, potentially pushing energy costs even higher.The surge in oil has also complicated expectations for monetary policy, with markets scaling back bets on interest-rate cuts from the Federal Reserve.
“The US economy and the stock market are currently caught between Iran and a hard place, and the Fed is in a similar position,” Yardeni wrote in a note. He warned that a prolonged oil shock could leave policymakers grappling with the dual challenge of rising inflation and increasing unemployment.
Amid the uncertainty, the US dollar has strengthened as investors seek safer assets. The Bloomberg Dollar Spot Index has risen nearly 2% since the conflict began.
US equities, however, have so far fared slightly better than global markets. The S&P 500 declined about 2% last week, compared with a 3.7% drop in MSCI World Index.
Analysts at Wilsons Advisory said US stocks may be showing relative resilience partly because the country is more energy self-sufficient than many regions, particularly Asia.
In addition, concerns over heavy spending on artificial intelligence and potential business disruptions had already tempered enthusiasm for US equities earlier.
Nevertheless, signs of rising market stress are emerging. S&P 500 futures dropped more than 2% during Asian trading hours on Monday, pointing to renewed selling pressure.Hedge funds have also increased short positions in US equity exchange-traded funds, while the Cboe VIX Index climbed to its highest level since the tariff-driven volatility seen in April.
In the bond market, the yield on the benchmark US 10-Year Treasury rose six basis points as traders factored in the possibility of higher inflation.
The shift in sentiment has also altered expectations for monetary policy. Investors now anticipate the next quarter-point rate cut from the Federal Reserve only by September.
Before the conflict escalated, markets had fully priced in a reduction as early as July, and some derivatives traders are now wagering that the Fed may not cut rates at all this year.
Geopolitical rhetoric has also added to the uncertainty. Donald Trump said on Sunday that the military campaign against Iran was justified despite near-term economic pain, describing $100 oil as a “small price to pay” for longer-term gains.
Yardeni, who has previously made accurate market calls, had in December advised investors to effectively underweight the so-called “Magnificent Seven” technology stocks relative to the broader market.
Despite the current risks, his central outlook remains broadly positive. Yardeni continues to assign a 60% probability to his “Roaring 2020s” scenario for the rest of the year, which envisions strong and sustainable US economic growth driven by productivity gains.
Over a longer horizon, he sees an even stronger likelihood of that outcome. Yardeni places an 85% probability on the continuation of the “Roaring 2020s” through the coming decade, while assigning a 15% chance to a return of stagflation similar to the 1970s.
“If investors begin to anticipate stagflation,” he cautioned, “the chances of a bear market would rise significantly.”
With Bloomberg inputs
