One does not have to be an expert in financial markets to marvel at how equity valuations continue to rise amid what is an intensifying supply shock linked to the closure of the Strait of Hormuz.
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With the S&P 500 index at or near all-time highs, we turn to an examination of the composite Z-score of the index and its 30-day volatility to get a sense of whether valuations are fair.
And excluding risk linked to war, the answer is yes.
Understanding why is simple and straightforward: Firms across the economy are producing cash flows that are not matched elsewhere, resulting in superior earnings.
Should the war continue, expect further increases in oil prices and a declining supply of refined products, which will take a toll on the real economy and, in turn, equity valuations.
Geopolitics is always the Achilles’ heel of financial markets, which simply do not do a respectable job of pricing in politically driven strategic decisions.
One gets the sense that rising commodity prices and elevated equity valuations cannot both be correct under current conditions.
