Three ways the Hormuz crisis could end

International mediators published a tentative framework on 28 May for ending the maritime crisis in the Persian Gulf. Risk modellers and macro fund managers now have a decision tree to work through, with three branches that will set the course of global inflation and interest rates into 2027.

A framework is a long way from a settlement. It sets out what each side might accept, not what either has done, and every branch of the tree depends on things the text cannot deliver by itself: navies willing to sweep mines, underwriters willing to write cover and commanders at sea willing to obey their governments. The branches below differ mainly in how many of those conditions are met.

Mines cleared, oil at $75 (30 per cent)

In the best case, navies clear the mines together, war-risk underwriters start writing cover again and tanker traffic climbs back to twenty million barrels a day. Brent would then slide towards $75. The threat of stagflation would fade and central banks would be free to cut rates hard.

Even this branch takes time. After the Gulf war of 1991, clearing mines from Kuwaiti waters took months, and underwriters will want to see weeks of uneventful transits before they cut the premia that have kept ships at anchor. Oil would fall quickly on the announcement, but the physical market would tighten again as governments and companies rebuilt the stocks they drained during the closure. That refilling demand is the main reason to doubt that $75 would hold for long, even if it were reached.

The winners in this branch are obvious: oil-importing economies in Asia and Europe, airlines, chemical makers and every household with a car. Bond markets would rally hard as inflation expectations fell, and the currencies of big importers such as Japan, South Korea and India would recover. Producers outside the Gulf, which have enjoyed prices well above their costs, would give back their windfall.

An uneasy truce (50 per cent)

The likeliest outcome is a vague accord under which ships move again but security stays patchy. Occasional drone attacks and extortionate transit tolls would keep war-risk premia high, hold tanker traffic to twelve million barrels a day and pin Brent in a $90 to $105 range.

The arithmetic of this branch is uncomfortable. Traffic at twelve million barrels a day against a normal twenty leaves a gap of eight million barrels a day, far larger than any disruption of the 1970s or of 1990. Inventories have already been run down to fill the gap so far, so a lasting shortfall of that size has to be closed mainly by lower demand. Prices in the range above are what it takes to achieve that without factories closing outright, which is why the range is so high even in a branch described as a truce.

Iran's tolls would matter more here than in either extreme. Ships that paid them would move; ships whose owners feared American sanctions or lost insurance would not. The result would be a two-tier market in which cargoes bound for China and other buyers indifferent to Washington's rules move more freely than those bound for Europe, Japan or America. Price differences between regional crude benchmarks would widen accordingly.

War, and $130 oil (20 per cent)

If the deal falls apart, strikes resume on Saudi refineries and Iranian export terminals. Crude goes beyond $130 a barrel and central banks around the world are forced into emergency tightening.

Recent history shows how exposed Gulf infrastructure is. In September 2019 a drone and missile attack on Saudi Arabia's Abqaiq processing plant and the Khurais field knocked out about 5.7 million barrels a day, roughly half the kingdom's output at the time. Most of it was restored within weeks, which showed Saudi engineering at its best, but the attack also showed that a handful of cheap weapons can take a vast share of world supply offline in a morning. A campaign aimed at export terminals on both sides of the Gulf would be far harder to repair.

Emergency tightening would be the central banks' response to a second wave of inflation arriving before the first has faded. The 1970s taught them that accommodating oil shocks lets inflation expectations drift, and Paul Volcker's rate rises were the costly remedy. Faced with oil above $130, most central banks would choose to raise rates into a slowdown rather than risk a repeat, which is why this branch carries the heaviest cost for bondholders and borrowers alike.

The weighted answer

Weighting the three branches by their probabilities gives an expected Brent price of roughly $94 to $101 a barrel, depending on where in its range the middle branch lands. That figure describes no outcome anyone expects to see. Oil will either fall sharply, stay high or spike, and a portfolio built on the average will be wrong in all three worlds.

Modellers therefore care about the shape of the distribution more than its centre. The spread between the best and worst branches is well over fifty dollars a barrel, so options on oil and on interest rates are expensive, and hedging the war branch costs a great deal. The practical response is to position for the middle branch while holding protection against the tails, particularly the upside tail in oil and the matching upside tail in short-term rates.

What the branches mean for rates

The middle branch is the awkward one for central banks. Oil high enough to keep headline inflation elevated but not high enough to force emergency action leaves policymakers stuck: cutting risks entrenching inflation expectations, and raising rates risks deepening a slowdown already under way from dearer fuel. The likeliest response is to hold, which leaves short-term rates higher than markets were pricing before the crisis.

The case against this framing is that probabilities attached to diplomatic outcomes are guesses dressed as numbers, and the weights could shift overnight on a single incident at sea. That is fair, and it is an argument for watching the indicators that move the weights: the war-risk premia quoted in London, daily counts of tanker transits, and any verified progress on mine clearance. It does not change the fact that most plausible paths leave oil high for longer than the rally on the framework implies.

The middle branch is the one to plan for: oil stuck between $90 and $105 into 2027 and central banks with little room to cut. Only a verified reopening would change that.