The stock market has wishful thinking on the war

The big picture: Investors tend toward complacency, and they're only starting to reckon with the potential fallout of a protracted conflict, with many still hanging on to hope that the Iran war will be short lived.

• "The U.S. administration could end military action at any point, which would likely sharply reduce the risk premium in prices," Goldman Sachs analysts wrote in a note Wednesday.

Driving the news: Beyond the wish for a quick resolution, investors appear to believe the U.S. is more resilient to an energy shock than other countries because it's a top oil producer.

• And the economy is less dependent on oil than it was in previous shocks.
• Finally, there's a vibe that U.S. equities are a safe haven. Investors have been cashing out of Asian and European stock markets, driving deeper losses in international stocks.

Where it stands: Some of that optimism is starting to fade, especially after newly chosen Iranian leader Mojtaba Khamenei declared that the critical Strait of Hormuz should stay closed, and vowed revenge.

Zoom in: "The message is a substantial headwind for an investor community that had hoped the battle would end promptly," José Torres, senior economist at Interactive Brokers, said in commentary Thursday.

• "Negative impacts on corporate margins, inflation expectations, rate-cut prospects and yields are sparking market volatility, leaving participants with few places to hide."

Reality check: The effective closure of the Strait of Hormuz is shaping up to be the largest oil shock on record.

• Historically, long oil supply disruptions have driven stock prices down.
• And there are other worrying signs for markets, Jim McCormick, chief global macro strategist at Citi, tells Axios.
• "Banks are starting to write down growth forecasts, and you're looking at a daily news flow out of private credit that doesn't sound great."

Friction point: A sharp spike in geopolitical risk — as we're seeing now — can drive down investment, employment and stock returns, per a landmark study from economists at the Federal Reserve, published in 2022.

• They define geopolitical risk as "the threat, realization and escalation of adverse events associated with wars, terrorism and any tensions among states…that affect the peaceful courts of international relations."

• They measure it using a "geopolitical risk index" that essentially uses newspaper articles to evaluate wars, terror attacks and other volatile moments.
• Since 2000, the events that notched the highest risk scores have included 9/11, the Iraq war and the Russian invasion of Ukraine in 2022.
• Now the index appears close to that 2022 level.

By the numbers: The S&P 500 is down 3% from the start of the Iran war.

• Stocks reacted more violently to President Trump's "Liberation Day" last April, falling more than 10% the week of his announced tariff increases.

Flashback: In 20 major post-World War II military interventions, evaluated by analysts at RBC Wealth Management, the S&P 500 fell an average of 6%.

• But market measures can hide a lot, and not all conflicts are the same.
• When energy supplies are at stake, the pain is more acute. In the 1970s energy crisis, and in the 1990 Gulf War, the S&P 500 traded down by double digits.