Global financial markets navigated the first quarter of 2026 in a state of high alert, as the optimism of the previous year was met by a significant structural shock in the Middle East. While 2025 ended with a shift in the interest rate cycle and a rise in long-bond yields, the narrative for the March quarter has been dominated by the escalation of conflict in the Persian Gulf.
Commodity, currency, interest rate and stock markets are erratically responding to news bites, vacillating by the minute following pronouncements, often delivered via brief social media snippets sometimes with scant consideration of the truth. Such scenarios can spook investors and temporarily override good judgement and clarity of thought. We encourage investors to take a more patient approach – don’t entirely ignore concerns and issues of the day, but focus primarily on the basic economic, social and financial principles and one’s longer-term objectives. Doing so reveals sound fundamentals – our economy is essentially stable, corporate profits and balance sheets are in good order and dividend distributions higher.
The closure of the Strait of Hormuz in early March - a chokepoint for nearly 20% of the world’s oil and LNG supply - has triggered what the IEA describes as the most significant energy disruption in recent times. With Brent Crude surging past US$100 per barrel and LNG spot prices spiking following attacks on regional production infrastructure, the spectre of "stagflation" has returned to the fore. These geopolitical fractures are no longer merely "background noise"; they represent a direct threat to global disinflation trends, forcing central banks to pivot from their anticipated easing cycles to a more defensive, hawkish stance to contain energy-led price shocks.
In the United States, markets are attempting to digest this volatility while navigating the "cacophony" of a mid-term election year. President Trump’s focus on Western Hemisphere primacy and Arctic strategy continues to set an extraordinary tone, but the administration is now forced to balance its isolationist rhetoric against the mechanical necessity of stabilising global energy flows. Meanwhile, Europe is showing signs of strategic fatigue, increasingly reluctant to follow the US lead as it faces its own tepid economic growth, exacerbated by the maritime blockade.
Australian consumer confidence remains fragile, deeply sensitive to both domestic cost pressures and global shocks. Tellingly, sentiment darkened significantly as the quarter progressed; tracking data suggests a sharp decline late in March as the Middle East conflict broadened and petrol prices spiked. Household stress is elevated and consumer confidence has reached a decade-low, whilst inflationary expectations have spiked. This has triggered a pragmatic pivot in consumer behaviours, where Australians are increasingly trading down and switching providers particularly in groceries, energy, and insurance to relieve some pressure from stretched household budgets.
The broader economy is also grappling with an acute productivity bottleneck. While construction activity remains a bright spot, rising input costs for labour and capital are increasing more quickly than resultant outputs. This, coupled with the energy-led inflation spike from the Strait of Hormuz closure, suggests the RBA is likely to err towards higher rates so there is unlikely to be interest rate relief any time soon. Consequently, we expect a transition from selective cutbacks to broader restraint in household spending as we approach the May 2026 Federal Budget.
Meanwhile, a much-discussed topic remains the utility of artificial intelligence, but the lens has shifted. The breathless excitement of 2025’s "hyperscalers" is meeting the reality of a global energy crunch. The staggering capital commitments in data centres and computational power are now being weighed against the rising cost of debt and the physical constraints of energy supply. If the AI revolution cannot deliver the promised productivity gains to offset these rising input costs, the heady valuations of late last year may continue to be priced lower.
China, conversely, continues to expand its economic influence. Its prowess in EV technology and industrial technologies is underpinning a resilient export economy, even as it navigates the complex diplomatic waters of the Middle East crisis.
It is a fascinating, if sobering, start to the year—one where market participants would be wise to keep a wary look over their shoulder.
Australian Shares
The Australian stock market, as measured by the S&P/ASX 200, had a difficult start to 2026, falling by 2.7% for the March quarter. After hitting a record high of over 9,200 points in late February, the index suffered a sharp reversal in March, giving back some of the 2025 gains. For context, the current decline is proportionate to the liberation day falls of last April but less severe (at least so far) than the 2022 sell-off when the Russian invasion of Ukraine coincided with the end of the Covid induced artificially low-interest rate phase.
Most companies declared their half-year dividends in February, and many payments were moderately higher, indicative of improved operating conditions at that time. Looking forward, we don’t expect dividend payments to fall but we do expect management rhetoric to reflect the risks of higher operating and input costs, which could temporarily arrest earnings and dividend improvements for the remainder of 2026.
A central focus of the quarter was the February profit reporting season, which was generally pleasing but highlighted a growing divide amongst listed companies and put dividend sustainability in the spotlight. Corporate earnings were a mixed bag where top-tier miners and banks largely delivered solid results that supported the index's brief climb to record highs. However, rising input costs and margin compression became a recurring theme. The result was a clear split in dividend payouts: while some cash-rich companies raised their distributions, others maintained or trimmed payouts to protect their balance sheets and redirect funds toward financial capital management.
Individual stock price volatility remains a defining feature of the market. The persistent use of algorithmic trading continued to cause outsized price gyrations on both the upside and downside, most notable amongst many technology and high-growth stocks, which recently bore the brunt of heavy selling as bond yields rose, and a contrary downwards trade of last years’ AI exuberance prevailed.
There are some examples amongst the mega companies; but smaller and mid-cap stocks were even more volatile, experiencing massive swings coincident with profit reports and guidance statements. Market mechanics have a cascading price propensity—when a price moves substantively, it triggers an algorithmic momentum flow that can be very rapid and often whipsaws in the other direction just as quickly. Investors need to be aware of this inherent volatility and not be too concerned about short-term noise.
Australian shares are now trading at less demanding valuation multiples, but still a tad elevated when compared to historical norms. The average dividend yield has increased to about 3.5% and share buybacks are actively being used as a capital management tool in an accommodating credit market. Many companies continue to borrow (sometimes accessing private credit) to purchase and cancel their own shares, aiming to boost earnings per share for remaining holders. While boards present this as a prudent application of capital, it leaves companies with higher debt loads if economic conditions worsen.
The Australian economy is facing a distinct shift in momentum. Strong domestic price pressures, a tight labour market, and a geopolitical energy shock prompted the Reserve Bank of Australia (RBA) to abandon its holding pattern. The RBA increased the official cash rate to 4.10% via back-to-back hikes in the quarter. Consumer confidence has subsequently plunged as living costs and borrowing rates climb. Furthermore, Australia's ongoing domestic productivity problem means the cost of inputs (labour and capital) is rising more quickly than outputs, which may constrain corporate profit growth in the coming years.
Commodity price movements have been highly volatile. Energy markets were thrown into chaos due to Middle East conflict and shipping disruptions, sending crude oil prices surging back over US$100 a barrel. While this provided a massive boost to domestic energy producers like Woodside and Santos, it reignited fears of global inflation. Iron ore has defied expectations by holding comfortably above US$100/t, continuing to bolster GDP and government revenues. Precious metals, led by gold, also experienced speculation and significant price spikes and declines over the quarter.
Looking ahead, the RBA is not likely to provide any interest rate relief soon; in fact, the bond market is pricing in the possibility of further hikes to combat stubborn inflation. While strong commodity prices provide a solid floor for the resources sector, the broader market faces headwind risks from higher fuel costs, freight expenses, and tightening household budgets. Domestic considerations may take a back seat to leads from overseas, which may cause further market volatility this year. Share investors should continue to be cautious but be more inclined now to look to take advantage of lower prices as good value emerges in some stocks.
International Shares
In the March 2026 quarter, the MSCI world stock market index lost its footing and fell by 3.9%, capping off a tumultuous period that marked a poor start to the year for global shares. The steady market gains and the rotation to commodities we noted late last year were upended in March by a severe geopolitical shock in the Middle East and a growing scepticism regarding technology sector valuations.
The "AI exuberance" has decisively given way to an artificial intelligence "scare trade." Investors have become increasingly anxious about the massive infrastructure capital expenditures required by technology giants and the fear that rapidly advancing AI models will detract from the prospective valuations of some existing software-as-a-service tools. The much-vaunted US "Magnificent Seven" experienced a collective sell-off, dragging down the heavy-weight United States S&P 500 and Nasdaq indices. Conversely, many investors rotated toward so-called "HALO" stocks—companies with Heavy Assets and Low Obsolescence risk - found in materials, utilities, and energy.
Asian markets, which had an excellent 2025, faced a much more challenging environment in early 2026. Because many Asian economies are heavily reliant on imported energy, the sudden spike in crude oil prices caused by regional tensions weighed heavily on localised growth projections. Taiwan and South Korea, so recently the darlings of the semiconductor and AI hardware boom, experienced steep pullbacks as global capital fled concentrated tech risk. China's heavily guarded export boom in advanced technology products and electric vehicles continues, but it now faces some headwinds from snarled global shipping routes.
Continental European shares also surrendered some of their recent momentum. While some markets had been soaring on Eurozone defence spending and falling inflation, the script flipped in March. The threat of an adverse supply shock forced European bond yields to move sharply higher as investors realised central banks would have to keep interest rates higher for longer to tame reignited inflation.
British shares, which heavily benefited from six interest rate cuts by the Bank of England in the previous easing cycle, have seen those tailwinds fade. Higher energy prices have provided some support to the UK’s massive energy sector, but a spiking yield curve and the broader global risk-off environment have temporarily capped the market's upside.
Looking ahead, one can't contemplate the likely direction of markets without due consideration to the active geopolitical turmoil in the Middle East, the effective closure of critical energy chokepoints like the Strait of Hormuz, and the "we don't care about debt and deficits" attitude that continues to pervade governments globally. Last year, markets suffered a sharp selloff from tariff pronouncements; this quarter, the blow was dealt by geopolitics and oil pushing back over US$100 a barrel. There will likely be more market volatility and corrections this year, and because the current catalysts are tied to structural energy deficits and stubborn inflation, this market black eye might prove more difficult to bounce straight back from than previous dips.
Nevertheless, recently lower share prices and a moderately higher Australian dollar have created a better buying opportunity for long-term investors with patience.
Property Securities
The benchmark S&P/ASX 200 A-REIT Index was walloped by 17.1% over the March quarter. The index gave up all last years’ capital gains as broader equity market pullbacks and rising bond yields applied downward pressure on REIT market valuations.
Driven by a changing interest rate outlook and volatile broader markets, several standout features shaped the sector's poor performance and activity during the first three months of the year.
The yield gap narrowed, meaning that as the ten-year Australian government bond yield surged toward 5%, there was a corresponding increase in the required risk premium (the extra yield investors demand to hold property over "risk-free" government bonds), prompting capital to flow out of the sector.
February brought the half-year profit reporting season, which actually delivered surprisingly positive fundamental data. On average, A-REIT earnings slightly beat market consensus, and almost all listed property trusts either maintained or upgraded their full-year guidance for 2026. However, these solid operational results were completely overshadowed by the shifting macroeconomic environment and an expectation that borrowing costs will remain higher for longer.
Because of the heavy sell-off, a stark contrast has emerged between property trusts' stock market price values and what properties they owned, reflected by most REITs now trading at a larger discount to their respective underlying Net Asset Value, in some cases (Dexus, for example) by more than 20% .
The sectors largest constituent - Goodman Group – has suffered a significant share price decline from $38 early last year to the current price of about $26. Goodman’s price premium has evaporated and now represents much better value for growth-oriented property investors.
The diversified REITs have continued to prove themselves as reliable, yield-focused alternatives. GPT Group and Scentre Group, (the owner of 42 Westfield malls), now offer an attractive distribution yield of 5.3%, whilst Mirvac offers 5.4% and the prospect of capital gain as it completes multiple residential and commercial development projects.
Looking ahead, REITs now represent excellent value as a relatively lower-risk physical asset class in an otherwise highly volatile marketplace, with excellent income yield and much-improved entry-point investment merit, despite the sector remaining sensitive to any further interest rate movements.
Interest Rates
Australia’s Reserve Bank pivoted in early 2026, making two successive 0.25% official cash rate increases in February and March. The futures market is currently reflecting the likelihood of at least one further rate rise in the coming months.
In its March statement, the RBA said: ‘A wide range of data over recent months have confirmed that inflationary pressures picked up materially in the second half of 2025. While part of the pick-up in inflation is assessed to reflect temporary factors, the Board judged that the labour market has tightened a little recently and capacity pressures are slightly greater than previously assessed. Developments in the Middle East remain highly uncertain, but under a wide range of possible scenarios could add to global and domestic inflation…. In light of these considerations, the Board judged that inflation is likely to remain above target for some time and that the risks have tilted further to the upside, including to inflation expectations. It was therefore appropriate to increase the cash rate target….’
The RBA now finds itself walking a very narrow tightrope. There are distinct risks that could force the central bank to keep hiking rates including geopolitical energy shocks and second-round inflation, meaning where higher fuel and transport costs bleed into the everyday prices of groceries, retail goods, and services. Meanwhile, the Australian jobs market remains satisfactory, which is an economic boon but does risk keeping wage growth high without a matching increase in productivity, further fuelling domestic inflation.
On the flip side, slower consumer spending and the combined weight of back-to-back rate hikes and elevated living costs is actively denting household budgets. Consumer confidence has plummeted, and discretionary retail spending is beginning to weaken. If consumers zip their wallets shut, the economy could slow more quickly. This would raise the risk of recession against which the RBA is highly aware that over-tightening could cause a spike in unemployment and possibly mortgage defaults.
Australian long bond rates meanwhile have risen further, briefly breaching 5.1% recently, the highest in more than a decade. The primary reason for the higher yield is elevated inflationary expectations globally and the probability that treasury will only pay lip service to fiscal restraint in the forthcoming budget.
Corporate fixed interest spreads have widened, reflecting a more risk-off marketplace. Investors can now receive 6% and more from corporate debt securities, but default and arrears risks have also risen, so some caution needs to be exercised in this sector. Remember, when an interest rate being offered seems too good to be true, it probably is…
Investing in the fixed interest asset class is now a bit easier, as low-risk investments such as term deposits, big-bank securities and government bonds provide higher (and sufficient) yield such that investors don’t need to (and shouldn’t) take unreasonable risks in this sector.
Outlook
It’s unhelpful for us to speculate on short-term predictions as the crisis in the Middle East and associated trickle-through effects are a live and changeable dynamic. But as I write this (early April) investment markets are mostly priced more appropriately, having now shed some of last year’s frothiness. By consequence, some share prices are now into our ‘buy’ range so investors with a reasonable long-term horizon should start to consider increasing their market exposures. Some REITs (property trusts) are amongst the better value propositions at present.
Interest bearing investments are an easy option, particularly bank deposits and securities and government bonds which offer decent rates with minimal risk.
Last quarter I suggested keeping some cash handy in anticipation of a market decline. Investors should now moderately alter their strategy, looking to opportunistically deploy some cash over the coming months.
Yours sincerely,
Malcolm Palmer
Joseph Palmer & Sons
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