Key Highlights

• Energy shock fans stagflation fears as cross-asset correlations shift
• Liquidity stress mounts; investors flee to T-bills as private credit shows strain
• Rotation accelerates: software exits, energy hedges in, banks are pressured

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Lessons of war: no short-term fix

EXHIBIT #1: GOLD/OIL RATIO VS. S&P 500

_{Source: BNY, Bloomberg}

More hawkish signals from central bankers have called into question markets’ ability to look through the energy shock, as U.S.-Israeli strikes on Iran escalate risks to energy infrastructure alongside continuing shipping constraints. Energy hedging has spilled over into global equities, and stagflation concerns are mounting – natural gas prices are up nearly 100%. Investors are searching for an exit ramp: where does Iran’s current posture lead, and can it produce some form of conflict resolution? As oil volatility rises, the damage to the global economy is becoming harder to ignore.

Our take

The conflict’s damage is widening beyond Iran. Qatar has warned that 17% of its LNG capacity has been cut for the next three to five years – a supply hit that will hurt the global energy markets and the region’s fiscal balances. Rebuilding costs for Iran and the broader GCC will be substantial, and maintaining existing fiscal plans will also rise. What stands out this week is gold selling off 12% since the war began even as oil has surged 55%, a signal that liquidity pressures from the conflict are now bleeding into equities. 

Forward look 

An energy shock transmits into the real economy through a familiar channel: higher prices compress household incomes, forcing consumers to prioritize energy costs and pull back elsewhere. Leveraged risks are the first to show strains. Central bankers are watching financial conditions closely as a factor for policy transmission. At some point, energy inflation will lead to demand destruction, with the severity depending on the level and duration of the price shock. That process typically produces liquidity stress and a recalibration of equities. 

Private credit and financial conditions at risk

EXHIBIT #2: PRIVATE CREDIT ETF VS. IFLOW MOOD T-BILL DEMAND INDEX

_{Source: BNY, Bloomberg}

Our take 

Credit concerns linked to the war have sent mixed signals. Warnings about private credit emerged in Q3 2025 and have been intermittent since – the correlation with EMBI and other high-yield benchmarks is worth tracking over the next two weeks. The war proved a short-term relief that has since turned negative. T-bill buying has showed up in our iFlow Mood index since the new year: the rush to bills reflects views on rate policy as well as a preference for safety. The April 2025 extreme buying level has not yet been reached, and that remains the target for those expecting a larger risk washout. 

Forward look 

The risk for investors in private credit from the war is not straightforward. There is also the tangential link to AI investments and the competition for returns from software, insurance and some financial work – a concern that predates the conflict and will outlast it. The balancing act is between inflation keeping interest rates higher than expected at the start of 2026 and the demand hits from energy inflation. Both fiscal and monetary policy will be critical in pricing equities and private credit. So far, the demand for safe bills has not been overwhelming, but as we have seen this week, that may be changing. 

Policy and investor mood are key

EXHIBIT #3: IFLOW MOOD INDEX VS. U.S. MISERY INDEX

_{Source: BNY, Bloomberg}

Our take 

The rise in inflation and the hit to growth in the U.S. are best measured by the misery index. In the 1970s energy crisis, this was the key political barometer. Since the Great Financial Crisis, investors were more concerned about the savings glut and disinflation. The shift from COVID and fiscal stimulus and the current energy shock may bring it back. The signficant rise in the iFlow Mood index reflects the Fed’s success in capping the inflation in the U.S. economy while not starting a job recession. 

Forward look 

As we can see, the relationship of U.S. equities to the index has moments of strong correlation, and the current selling in equities and drop in the index won’t last. Either we see a growth hit leading to higher unemployment or we see higher inflation from the energy shock, both of which will likely leave equities looking at earnings more than anything else for guidance. The implication is that we are far from peak economic and policy worry, with another 10–15% downside risk to flows.

Rotations into energy, like technology, will have a limit

EXHIBIT #4: IFLOW U.S. SECTOR HOLDINGS – OIL, SOFTWARE AND BANKS

_Source: BNY

Our take 

We can see a significant drop in software holdings since the beginning of Q4 2025. Software holdings are 30% below the 10y average, financials 5%, and energy just 3% over the longer-term holdings average. AI’s role in driving the move stands out. Investors have only accelerated their selling of the industry since the war started. What has been different is that energy was seen as an offset, suggesting investors may be looking to divest from pure IT holdings to other sectors, with the current conflict adding to the urgency of shifting positions. The one area that merits attention is financials, where AI-related selling has been more modest even as the war has added to selling pressures. 

Forward look 

Bank holdings are lower for a number of reasons:

1. Geopolitical risks and stagflation, where the Fed and other central banks keep rates high, slowing growth and loan demand.
2. Private credit, where bank lines to credit funds will lead to losses, along with other economic slowdown risks.
3. CRE stress: the mortgage market remains a worry for some banks, and 2026 sees another $935bn in expected commercial real estate stress.
4. Ongoing DeFi, with banks facing non-bank competition from stablecoin payment solutions and other financial solutions eroding deposit base.

However, higher rates should slow fears about net interest income drops – estimates at the start of the year for NII for U.S. banks were for 1% down from 3.6% in 2025. This is rapidly changing. The role of Q1 earnings on the outlook for financials in mid-April will be keenly focused on the risks but could be surprising. Factset now sees S&P 500 earnings for Q1 at 11.6%, with financials a key part along with tech in supporting the growth. 

Bottom line

Into Q2, equity risk-reward hinges on the duration and magnitude of the energy shock and its pass-through to demand, funding and earnings. We expect incremental tightening in financial conditions as volatility reprices risk premia, with early strain most visible in leveraged exposures and private credit. Portfolio implications favor quality and balance sheet resilience: we have seen a tilt toward cash-generative energy and select defensives, reducing high-duration software where multiple compression risk persists, and being selective in financials, prioritizing strong deposit franchises, conservative CRE exposure, and diversified fee income.

Catalysts include mid‑April earnings (watch margin guidance, energy cost pass-through and credit loss provisioning), central bank reaction functions to headline inflation, and any de‑escalation signals affecting LNG and oil supply. Hedging via volatility and commodity overlays remain prudent as correlation regimes shift (gold/oil/equities). While bill demand suggests growing caution, a durable equity floor likely requires either clearer growth stabilization or inflation relief; until then, downside tail risk to flows remains complex.

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