How top fund managers are responding to renewed inflation risks

The rise in oil and gas prices has sparked fears of a 2022-style inflation crisis reemerging, with energy costs set to rise as the war in Iran continues.

A repeat of this could be painful for investors because 2022 saw both equities and bonds experience negative returns for the first time since 1977. This meant even portfolios which were diversified along the traditional lines of holding stocks and bonds were not spared in the downturn.

James Flintoft, head of investment solutions at AJ Bell, acknowledged that the recent events across the Middle East had forced a change in the risk environment, but makes the crucial point that: “What matters most from an investment perspective is not the immediate market reaction but what a potentially prolonged conflict means for oil prices, inflation expectations and the appropriate positioning across asset classes.”

Professional fund managers will always caution not to make knee-jerk investment reactions to short-term events. Ideally, their bottom-up stock analysis acts as the driver of their investment process, rather than being at the whim of the latest market developments.

But even if the current inflation fears don’t reshape their entire investment outlook for 2026, or longer term, that doesn’t mean that they’re not aware of and responding to what’s going on.

Manager Jasmine Yeo helps steer Ruffer Investment Company, which has a focus on preserving wealth via an array of equities, bonds and other alternative assets. She says the team is looking to build a group of investments: “with both growth and protection in mind, as we can never be certain of the direction of markets nor the shape of future crises”.  

“Given the highly unpredictable nature of the current environment, we have not made major changes to the asset allocation This is not to say we have not been closely monitoring recent developments and their impact on the portfolio,” she adds.

As Flintoft says, the main factor determining whether inflation makes a real 2022-style comeback is the length of the conflict, which is arguably, the biggest unknown of all.

Paul Niven, manager of the world’s oldest investment trust F&C, says that if the Strait of Hormuz is meaningfully disrupted for a few months: “That is going to have a really consequential impact on inflation and growth. But that is a scenario, not the base case.”

Simon Clements, manager of the Liontrust Sustainable Future Global Growth fund, says his current base case is that the hot conflict could conclude by the end of March as the ongoing shuttering of the Strait of Hormuz would be too damaging to the global economy.

“If hostilities de-escalate in the near term, we would expect the inflationary impact to be relatively contained. Labour markets are no longer as tight as they were in 2022, and global supply chains are largely functioning, which should help absorb short-term shocks,” he said.

Under his current line of thinking, Clements has been revisiting some of positions he had been building, and evaluating newer opportunities. He has also used the broad selloff to enter companies at more attractive valuations.

If things do shift towards a more bearish scenario where the conflict extends longer term, Clements says he would look to “increase exposure to defensive areas of the portfolio. In that environment, larger-cap stocks would likely prove more resilient than mid-caps". Though Clements adds: “At present, we view this more negative scenario as less probable”. 

Sam Witherow, manager of the JP Morgan Global Equity Income fund and the closed-ended Global Growth & Income trust, says that it is important to “remain open minded” as the conversation around inflation unfolds.

A reminder to be proactive about diversification

Ruffer’s Yeo says that this latest bout of “live and unpredictable” market volatility reinforced their idea that markets have shifted into “a new investment regime, one defined by greater fragility, inflation volatility, and shifting asset class correlations”.

Several factors have driven this shift according to Yeo, but the rising number of geopolitical conflicts has become a dominant one, in an era frequently peppered with ‘unprecedented events’ as F&C’s Niven describes them.

In Yeo’s view this isn’t just a case of short-term volatility as it could cause unwinding of the lower inflation benefits of globalisation and free trade.

A ‘symptom’ of this was the increasingly positive correlation between bonds and equities, which to some, has weakened the role of bonds as a reliable diversifier.

Back in 2022 this spurred debate over whether the traditional 60/40 equity/bonds portfolio was appropriate for the modern market. An option promoted by some was a 60/20/20 split, with the fixed income portion shared with alternative assets, such as gold.

“An ability to cut through the noise easier said than done...but when you diversify, using a blend of focused strategies essentially helps to insulate against the geopolitical noise,” Niven says. This reflects F&C’s approach of employing multiple external fund managers, with different stylistic approaches to the market.

How could this change market trends?

Coming into March, several investment trends had started to take root in markets, with investors moving away from the big US-tech stocks amid concerns about how the AI race would play out with more focus on company moats than capex spend, with some turning to Europe for their growth allocation. Meanwhile, value, which outperformed growth as an investment style last year, continued to capture attention as well.

But if the Middle East crisis persists, this could be undone. “If we get into a ‘bad inflation’ situation’, a little bit more like 2022, that value trend will struggle a bit more as it tends to be more cyclical,” JP Morgan’s Witherow explains.

US tech stocks have stayed afloat while the rest of the market has fallen, with the S&P 500 up around 1.5% since the eve of the join US-Israeli bombardment. F&C’s Niven said that since Europe would feel the energy squeeze particularly hard “I'm not sure that people will be willing to hang on to that constructive view of European equities if the current disruption in the Middle East persists for a meaningful period of time.”

Not losing sight of other developments is important

Looking through this latest crisis, all the managers flagged that there were other risk events and headwinds that had not dissipated amid the Iran-energy price frenzy but had, understandably, become less front of mind for the market.

Artificial intelligence, both the disruption it is causing to incumbent businesses and the need for participants in AI to demonstrate returns from their massive investment plans were all being kept in mind by Yeo, Witherow and Niven in their long-term decision making.

Equity valuations among the US remain close to record highs and governments in the West are having to address large amounts of public borrowing, and the policy agenda for the Trump administration remains unpredictable on trade and other areas.

While the impact on markets amid the Iran fallout is very real, some managers have been proactive in managing market risks, and calls made at the start of the year still had weight to them now.

AJ Bell’s Flintoft said changes to the AJ Bell fund range made in January “were built for rotating markets, as are diversified portfolios. That reality has arrived in 2026 and could be spurred further by this latest catalyst”.