The resumption of oil tanker traffic through the Strait of Hormuz has significantly narrowed the tail risks to oil supply, yet the market has not calmed down—only the source of anxiety has shifted.
With the US-Iran memorandum of understanding signed, one of the world's largest sources of macro uncertainty has been effectively capped. Goldman Sachs strategists Dominic Wilson and Kamakshya Trivedi, Chief Foreign Exchange and Emerging Markets Strategist, now assess that as oil price tail risks fade and inflationary pressures ease, market attention is pivoting towards the Federal Reserve's policy path, cyclical growth resilience, and a core contradiction: fundamentally positive conditions versus already expensive valuations—particularly pronounced in AI-related assets.
From Macro to Micro Volatility
The strategists' view is that macro volatility will decline further, while diverging views on AI investment returns and earnings sustainability will drive a sustained rise in micro volatility, becoming the primary driver of stock market fluctuations.
This assessment is underpinned by a clear logical chain: oil shock concludes → inflation risks decline → interest rate path converges → macro asset volatility range narrows. Concurrently, the AI investment narrative enters a "realization phase," with the market beginning to question: is this investment truly worth it?
Containment of Oil Supply Risks
Prior to the US-Iran agreement, market pricing for oil price upside tail risk was already quite elevated. Following the deal, Persian Gulf oil exports have recovered to about 66% of normal levels, with the Strait of Hormuz resuming its role as a critical global crude oil transit channel.
Notably, the Brent crude price for the December 2026 contract remains above pre-conflict levels, indicating that further market premium can be squeezed out. Goldman Sachs' commodities team forecasts Q4 Brent at $80 per barrel but acknowledges two-way risks—if capacity rebounds faster than expected, a supply glut could emerge in the near term, pressuring the market until inventory demand recovers.
Regardless, the direction is clear: a major macro tail risk is converging.
Fed Hawkishness as a Short-Term Volatility Source
The June FOMC meeting conveyed a more hawkish signal. The market promptly brought forward rate hike expectations, though the terminal rate changed little. This suggests greater market concern about the near-term hiking path rather than a significantly higher long-term rate plateau.
Uncertainty stems from the Fed's communication approach. With reduced forward guidance and limited clues from Chair Warsh's reaction function, the market must rely more heavily on data. Any hotter-than-expected employment or price data could further fuel pricing for July and September hikes.
However, falling oil prices are weakening the case for hikes. The 10-year breakeven inflation rate has fallen to levels not seen in over a year, alongside a flattening yield curve. This combination does not support "runaway inflation" pricing.
Over the next 2-3 months, Fed hawkishness risk will still unsettle asset prices. Beyond that, if oil prices continue to lower inflation readings, the rationale for hikes will become less compelling. The bias on the interest rate path is: if hike pricing rises further, opportunities to receive rates will become more attractive.
"Currency debasement" trades are also receding. The flattening yield curve, weakness in gold and crypto assets, and dollar strength are all linked to related position unwinding.
AI Valuations: Increasingly Stretched Assumptions
AI is the current epicenter of market contradictions. On one side, the cyclical environment remains decent with strong corporate profits, and the imbalances seen before the late-1990s cycle peak are not yet evident. On the other, valuations for AI-related assets are already high.
Valuations for AI-related stocks require increasingly optimistic macro earnings assumptions to justify—though not yet "absurd," the margin for error is shrinking.
The specific contradiction lies in: while the AI capital expenditure boom itself supports near-term profits for related firms, is the market overestimating the sustainability of these above-average earnings? Recent renewed volatility in the semiconductor sector serves as a warning signal.
"As long as the investment boom appears solid, the positive near-term earnings impact will outweigh valuation concerns. But current pricing makes the market more vulnerable to any challenge to the optimistic narrative."
This is not a call for a bubble burst, but a description of the probability distribution: the bar for positive surprises is rising, while triggers for downside tail risks are lowering. The response is to maintain equity long positions while also using options or directly buying volatility for downside protection.
A Macro Calm with Micro Turmoil
The US federal funds rate has now been in the 3.5%-4.5% range for over 18 months and is expected to remain there for at least another year. Easing energy prices reduce the probability of rates deviating sharply, with economic growth likely to persist around the 2% level seen over the past two years. G10 foreign exchange realized volatility has fallen to five-year lows.
Yet at the stock level, volatility remains elevated. Implied correlation, measuring the index volatility component driven by macro factors, is hitting new lows, while single-stock volatility stays high. These concurrent trends mean: overall market macro noise is diminishing, but divergence among individual stocks and sectors is intensifying.
This divergence is driven by the market's individual scrutiny of each AI company—determining who is genuinely earning money and who is merely riding the wave.
Dollar Strength: More Muted Than Expected
The Fed's hawkish pivot has replaced high oil prices as a new support for the US dollar. The euro and yen have broken below recent ranges, and the dollar has strengthened against "safe-haven alternatives" like gold and the Swiss franc, as Chair Warsh's singular focus on combating inflation has eased market fears of "currency debasement."
However, the strength of the dollar has been less forceful than some anticipated for three reasons:
First, Asian currency management regimes are suppressing volatility amplitude, with intervention threats for the yen and India encouraging capital inflows.
Second, US equity relative performance is not particularly outstanding compared to emerging markets, and concentrated returns limit currency spillover effects.
Third, emerging market currencies and carry trades, funded in euros, Canadian dollars, and yen, can still generate positive returns as long as risk appetite holds, even with further modest repricing of the Fed's path.
G10 FX volatility has just retreated to five-year lows, lacking the conditions for a significant "breakout higher" in the near term.
Emerging Markets: A Diffusion of Gains
A more hawkish Fed, rising core rates, and a stronger dollar initially interrupted the relief emerging market assets gained from falling oil prices. However, as some hike premium is now priced in, continued oil price declines are opening new opportunities.
The key for emerging market equities is not a rotation from tech to non-tech, but a diffusion of gains. Oil-importing laggard markets like India, Turkey, and Egypt have room to catch up as oil prices moderate. Equal-weighted and tech-excluded EM indices have already begun recovering post the Iran deal.
But this is not a "rotation." North Asian markets with high AI and tech exposure continue to lead, supported by robust earnings delivery.
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