By Sabrina Escobar

The war in the Middle East hasn't yet upended global financial conditions. But market resilience "should not be taken at face value," the International Monetary Fund said on Tuesday, warning that a longer conflict could trigger a more adverse reaction from financial markets.

So far, financial markets have reacted to the oil shock resulting from the U.S. and Israel's military actions in Iran in a "reasonably orderly" fashion, according to the IMF's latest Global Financial Stability report, published Tuesday morning as part of the IMF/World Bank's annual spring meetings.

Equity prices declined, sovereign bond yields rose, oil prices surged, and volatility increased across asset classes. While investors won't be thrilled about the drop in equities, this type of reaction is a key feature of resilient markets, the IMF said, facilitating risk sharing across investors. Although uncertainty and volatility have been high, investors haven't yet exited markets altogether, avoiding the liquidity stress that can lead to a downturn.

Part of the reason markets have held up well is because they were in a good place entering 2026, the IMF said. Household and corporate balance sheets were in a healthy spot, continuing to benefit from pandemic cash buffers; the banking sector was well capitalized; and emerging market financial conditions were stronger, bolstered by improving policy frameworks.

But the length of the current conflict is unpredictable, and could yet trigger stress through "channels not yet fully apparent." The IMF highlights certain vulnerabilities in financial markets that could amplify emerging strains in the financial sector.

"Global financial stability risks are elevated," the report reads. "The global financial system is confronting the ongoing war in the Middle East, potential inflationary pressures, rising risks of further tightening in financial conditions, and several channels through which market turmoil could escalate into financial instability."

IMF staff members highlight rising debt-to-GDP levels, which have led to larger bond yield gyrations on auction days. Greater bond market volatility could tighten funding markets, which has been a focal point of past financial turmoil.

Rising borrower defaults in private credit are also worth watching. The uptick could cascade into concerns about corporate credit more broadly, researchers wrote, especially for borrowers involved in the artificial intelligence boom. Severe shocks to the system, such as an escalation in the Middle East or a macroeconomic downturn, may result in substantially higher interest rates or an earnings contraction that could push default rates higher to two to three times recent levels, they add.

The AI boom -- and its vast benefits to the global economy -- could also be endangered. A longer conflict would weigh on investment in the sector. Indeed, the very nature of the AI buildout is a risk, researchers write. AI developers and chipmakers are simultaneously acting as "customers, investors, and financiers," creating a circular financing structure.

"Greater interconnectedness owing to such circular financing structures heightens concerns of systemic spillovers should an adverse shock affect even a single entity," they note.

Another risk is the rising prevalence of nonbank investors, such as hedge funds, option sellers, and leveraged exchange-traded funds. Tighter financial conditions may force nonbank investors to sell their positions. That could amplify volatility. Emerging markets are more sensitive to these changes in the investor base, IMF staffers note, given that international fund flows are more dominated by nonbank investors who are more sensitive to global risk conditions, and may see more funds flowing out of their borders.

The IMF urges policymakers to monitor these and other vulnerabilities and be ready to act should the financial system come under stress. The report notes that national authorities "should be ready to intervene" to ensure stability. And while researchers cautioned against central banks tightening monetary policy prematurely, they should "stand ready to tighten" to contain any knock-on effects from the conflict, such as higher inflation.

Write to Sabrina Escobar at sabrina.escobar@barrons.com

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April 14, 2026 10:15 ET (14:15 GMT)

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