An escalating conflict in the Red Sea region has sent shockwaves through global energy and defense markets this week, as oil prices surge on supply concerns and volatility spikes in stocks with exposure to the situation.
The clash involves a US-UK-backed coalition supporting Yemen against an Iranian-backed rebel insurgency, threatening crucial shipping lanes that account for 10% of global trade. With the potential to disrupt oil supplies, Brent crude jumped 5% on Tuesday to over $87 per barrel, its highest level since October 2022.
This sudden geopolitical risk has caught markets off guard after months of stability. The CBOE Volatility Index, or VIX, spiked above 20 this week, ending its record low streak. Investors are repositioning for heightened uncertainty as the fog of war descends.
You see, a low VIX typically means that markets are sure about the future direction of the market, so any event that comes into play and changes the perception of the future or stability of the financial market could bring about a spike in volatility,” said John Smith, an equity analyst at Major Bank. “Over the past week, the world has spit out its newest surprises to make this spike come to life.”
Winners and Losers in the Energy Patch
The biggest winners from the escalating tensions are oil producers and refiners like Chevron, which stands to benefit from surging crude prices. Chevron stock is up 4% since the crisis began, buoyed further by a double upgrade from Neutral to Buy by Major Bank this week.
Analysts cited Chevron’s industry-leading free cash flow, dividend growth and capital discipline as reasons for their bullish call. With supply risks rising in the Middle East, they see substantial upside for Chevron shares.
In their intelligence reports, Goldman analysts predicted a range of $70 to $100 per barrel for 2024, and the Red Sea risks could act as the spark to light up the fire,” Smith explained. Whether a coincidence or just the mysterious ways of the market, Barron’s included Chevron in its top stock picks for 2024; it looks like they will be proven right sooner than they expected.
Chevron also enjoys broad support from Wall Street, with 85% of analysts rating it a Buy or Strong Buy. The average price target stands at $184, implying 25% upside from current levels.
Related sectors like refiners, rig providers and oil services companies are also benefiting from the supply shock. Valero, Halliburton and Schlumberger have gained between 2-5% this week and should continue to rise if geopolitical risks remain elevated.
The major losers are airlines with high fuel costs like Delta and American Airlines, which plunged over 7% this week on fears that pricier crude will squeeze margins. Carriers typically hedge against oil spikes, but higher jet fuel expenses should still pressure the bottom line.
Defense Stocks Gear Up
The other major beneficiaries are defense contractors like Lockheed Martin, which produces key weapons systems including F-35 fighter jets, missile defense programs and drones. Lockheed shares are up over 3% this week as investors bet on stronger demand if Middle East conflicts intensify.
Rival defense names like Raytheon, Northrop Grumman and General Dynamics have also outperformed, lifted by the prospect of higher government defense spending. The proposed 2024 U.S. defense budget already totals $842 billion, and geopolitical risks make cuts unlikely.
It is clear that rising oil prices could prove bullish for Chevron, but when you really think of the defense side of the equation, this is where defense stocks like Lockheed begin to surface,” said Smith. Since the conflict was announced last week, this stock has risen by 3.3% in a matter of days, approaching a breakout of resistance at $465.0 a share.
Analysts also noted solid fundamentals and order backlogs for defense firms, with Lockheed enjoying a price target of $483, representing 4% upside even before recent clashes. Missile system suppliers and cybersecurity providers also stand to gain from digital warfare trends.
Boeing: A Contrarian Play
One contrarian way to play the oil spike is Boeing, since the aerospace giant tends to fall on higher fuel prices that raise airline costs and hurt new aircraft orders. Boeing stock plunged 18% in the past week after one of its planes crashed in Alaska.
However, with Boeing shares now at multi-year lows, some strategists see upside potential if the oil surge stabilizes. Though higher crude weighs on near-term fundamentals, the airline industry is much healthier than during prior fuel spikes, noted Mike Wilson, chief equity strategist at Major Bank.
He suggests investors take advantage of Boeing’s dip to position for oil stability and an eventual rebound in orders when the 737 MAX is recertified. The average analyst price target of $258 still represents nearly 20% upside for the beleaguered stock.
Chevron analysts see a price target of $184.9 a share, implying a 25.6% upside from where the stock trades today. With Lockheed, a $483.6 price target reflects a 4.4% upside,” explained Wilson. “Now, Boeing brings a potential for an 18.8% upside in its $258.6 a share price target, but here’s the interesting part…”
Because Boeing’s earnings are dependent on new orders from airlines, and airline demand is extremely sensitive to oil prices (which drive ticket prices), a rise in oil could prove a headwind to Boeing’s earnings,” he continued.
Because the stock already sold off before the effects of oil took place, in a completely unrelated issue, there’s an opportunity for you to be exposed to the rise in oil but also protect yourself in case it stabilizes and plays a recovery in Boeing once the FAA clears the 737 Max 9 for flight again.
Geopolitical risks remain highly uncertain, making flexibility essential. Investors should monitor the situation closely and adjust positions accordingly. Energy stocks offer direct exposure to higher oil prices, while defense provides stability amid turmoil and Boeing offers a hedge if tensions de-escalate.
Diversification across these sectors allows participation in upside scenarios while managing downside risks. Though uncertainty abounds, the resilient American economy and corporate sector are likely to weather any storms, as they have many times before. Patience and perspective remain investors’ best allies.