From energy supply disruptions to trade tensions and financial sanctions, geopolitical events are increasingly shaping markets, often abruptly and unpredictably.

Trying to anticipate how any single conflict will unfold is rarely a profitable exercise. The recent conflict between the US and Iran is a case in point. Ceasefires can prove fragile, situations can shift quickly and market volatility often spikes. History suggests that responding to headlines after the fact is not a reliable way to deliver long term returns. 

But these episodes often reveal something about the broader direction of travel for the global economy. While the short-term path is uncertain, there are deeper trends that investors can have conviction about and these trends have important implications for inflation, interest rates and portfolio construction.

A less stable world

The relatively calm geopolitical environment that prevailed from the 1990s through the mid 2010s was an exception rather than the rule. That period was shaped by rising globalisation, expanding trade and cooperation through international institutions. It helped keep inflation low, dampened volatility and supported long stretches of steady market returns. 

Today’s world looks very different. Geopolitical power is becoming more fragmented, and the US is less willing - or less able - to act as a global stabilising force. Rivalry between major powers is intensifying, and economic relationships are increasingly shaped by strategic considerations rather than efficiency alone.

As a result, geopolitical risk is likely to remain structurally higher than it was in the past and so a more persistent feature of the investment environment. 

Chokepoints as tools of power

One of the clearest manifestations of this shift is the growing importance of so called ‘chokepoints’ - critical routes or systems that can be disrupted to exert economic pressure.

The Strait of Hormuz, through which a significant share of global energy supplies passes, is a familiar example. Similar vulnerabilities exist at locations such as the Bab el Mandeb, the Panama Canal and the Taiwan Strait, where interruptions can ripple through global trade and supply chains. 

Beyond physical routes, financial and industrial chokepoints are also being used more explicitly. The US has leveraged its influence over the dollar-based financial system to impose sanctions, while China has used its dominance in critical minerals during trade disputes. 

For investors, the message is clear: disruptive shocks are likely to occur more often and markets will need to price in higher risk premiums as a result. 

More supply shocks and tougher trade offs

From an economic perspective, higher geopolitical risk means more negative supply shocks. These push prices higher while simultaneously weighing on growth, an uncomfortable combination for households, businesses and policymakers alike. 

Energy disruptions are an obvious example but far from the only one. Tariffs, export bans, climate-related events and even pandemics hit the economy through similar channels. 

Over time, companies and governments may respond by reshoring production or diversifying supply chains to improve resilience. While sensible, these steps often come at the cost of reducing efficiency. Producing goods closer to home tends to be more expensive, which can keep growth lower than in the past. 

The result is a more challenging backdrop for policymakers, who face tougher trade-offs between supporting growth and controlling inflation.

Higher inflation and more volatile markets

Inflation is likely to be both higher and more volatile than it was in the decades before the pandemic. 

Central banks increasingly find themselves trying to push inflation down from above their targets, rather than lift it up from below, a reversal of the experience that shaped investor expectations for much of the post-financial crisis period. 

As households and businesses adjust, inflation expectations and wage setting behaviour may also change, making inflation harder to bring under control when shocks occur. Interest rates, in turn, are likely to remain more volatile than investors became accustomed to during the low inflation era. 

One important consequence is that government bonds may no longer provide the reliable diversification they once did. In a world dominated by demand shocks, bonds and equities tended to move in opposite directions. But supply driven shocks can pressure both asset classes at the same time, reducing the effectiveness of traditional portfolio diversification. 

Rethinking diversification

Investors are increasingly looking beyond traditional asset mixes for diversification. Real assets such as infrastructure often have revenues linked to inflation, while commodities can benefit directly from supply shortages. Gold has also historically played a role during periods of elevated inflation and geopolitical stress, and central bank purchases aimed at reducing reliance on dollar assets may provide longer-term support. 

Higher geopolitical risk is also likely to underpin sustained investment in defence, resilient infrastructure and access to critical materials, trends that are already evident in Europe and the US. 

The bottom line

Predicting the precise course of geopolitical events is exceptionally difficult. But the broader implications are becoming clearer. A more fragmented and contested world points to higher inflation risk, greater market volatility and less dependable diversification from bonds.

For long-term investors, adapting portfolios to this evolving reality- rather than reacting to the latest headline - is likely to matter far more over time.