Military stocks, oil stocks, or US bonds, which one is the best hedge for the "Israel-Palestine conflict"?

As investors digest the pressure brought by the Israeli-Palestinian conflict, Federal Reserve officials have sent dovish signals, leading to a "counterattack" in the US stock market on Monday afternoon, with oil prices and US Treasury futures continuing to rise.

Overnight, the three major US stock indexes opened lower. At the beginning of the session, the Nasdaq Composite Index fell by more than 1.1%, the Dow Jones Industrial Average fell by nearly 150 points, or more than 0.4%, and the S&P 500 Index fell by nearly 0.6% when it hit a daily low in early trading. However, the decline narrowed afterwards, and the midday session saw a collective turnaround and maintained an upward trend. At its daily high, the S&P 500 rose by nearly 0.8%, the Nasdaq rose by nearly 0.6%, and the S&P Dow Jones rose by more than 220 points, or nearly 0.7%.

In the end, all three indexes closed higher for the second consecutive trading day. The S&P 500 rose by 0.63% to 4,335.66 points, reaching a closing high since September 25 for two consecutive days. The Dow Jones Industrial Average rose by 197.07 points, or 0.59%, to 33,604.65 points, reaching a high since September 28. The Nasdaq rose by 0.39% to 13,484.24 points, reaching a high since September 19.

The geopolitical tension caused by the conflict has had an impact on the energy market, and some experts predict that crude oil prices will temporarily soar, but the overall impact is limited. The escalating tension has made traders worried about sustained inflation and higher interest rates, which may further destabilize the market.

International crude oil futures opened higher and maintained an upward trend throughout the day. On Monday, WTI crude oil futures rose by 4.3% to $86.38 per barrel. International Brent crude oil futures rose by 4.2% to $88.15 per barrel. Both WTI and Brent crude oil achieved their best performance since April 3.

On Monday, US Treasury futures maintained an upward trend throughout the day as the US bond market was closed for the Colombian holiday.

In a recent report, James Mackintosh, a senior investment columnist for The Wall Street Journal, wrote that the most important thing is the possibility of war escalation.

The most likely first step is for the United States to increase sanctions on Iran, which has been helping Hamas attacks (Israel), reversing the previously easing US-Iran relations that have helped Iran increase its oil production by about 500,000 barrels per day over the past year. According to Goldman Sachs, if Iran reduces production by 100,000 barrels per day next year, oil prices will rise by $1.

How to hedge the risk?

Mackintosh believes that for investors who want to hedge the risks brought by the conflict between Israel and Palestine, oil stocks, defense stocks, and US Treasury bonds may be good choices. These three asset classes are already quite attractive, with the tense oil market bringing high profits, and US Treasury bond yields have reached their highest level since 2007.

The expected profitability of US oil companies is much higher than usual, but far lower than the peak in the fall of last year. Even if it returns to the average level since 2005, it will only push the industry's P/E ratio to its long-term average.

On Monday, Halliburton rose 6.8%, CF Industries rose 6.3%, Hess rose 5.3%, Warren Buffett's stake in Occidental Petroleum, which has increased to 25% by June this year, rose 4.5%, ExxonMobil rose 3.5%, and the only energy component of the Dow Jones Industrial Average, Chevron, rose nearly 2.8%.

Defense stocks not only benefit from the short-term boost brought by the Russia-Ukraine conflict, but their prices are also much lower than earlier this year. However, they also face the uncertainty of domestic political fluctuations, which was once again demonstrated last month when the US Congress passed a temporary spending bill to avoid a government shutdown and excluded support for Ukraine.

Defense stocks rose sharply on Monday, with Northrop Grumman leading the US stock market, with a stock price increase of more than 11%, expected to set a record for the largest increase since March 2020; Lockheed Martin's stock price rose more than 8%, and RTX rose more than 4%.

In Europe, defense stocks are one of the best-performing sectors in the Stoxx Europe 600 index. The stock prices of BAE Systems, the largest defense contractor in Europe, Leonardo of Italy, and Dassault Aviation of France all rose more than 4%, and the stock price of German arms manufacturer Rheinmetall rose more than 7%.

Mackintosh also said that compared to oil stocks, he prefers US Treasury bonds and expects the US economy to slow down as interest rates rise and impact the economy. However, investors who are both concerned about the escalation of the conflict and see the potential for strong economic growth may prefer oil stocks if the conflict does not escalate.

Previous Middle East conflicts have rarely disrupted the market for a long time, except for the huge impact of the embargo in 1973 and the Iran-Iraq war in 1979.

Protecting one's investment portfolio from the impact of the recent escalation of war, which is haunted by the ghosts of central bank errors and inflation from that era, may be a wise move.