Geopolitical Risk and the FTSE 100: How a Gaza Peace Deal Could Reshape Volatility and Sector Rotation

The FTSE 100, a barometer of UK equities, has long been sensitive to geopolitical shifts in the Middle East. Recent volatility tied to the Gaza conflict underscores how regional instability can ripple through global markets, even as the UK's diversified economy offers some insulation. However, a potential Gaza peace deal could act as a stabilizing force, reducing geopolitical risk (GPR) and reshaping sector rotation patterns in the index.

Geopolitical Risk and the FTSE 100's Volatility

Geopolitical risk has a direct and measurable impact on stock market volatility, particularly in indices like the FTSE 100. A 2022 Economics Letters study found that GPR increases volatility by 15–20% in global markets, with emerging economies and oil exporters being the most vulnerable. The FTSE 100, while less exposed than emerging markets, still experiences pronounced swings during Middle East crises. For instance, during the 2005 London bombings, the index plummeted 200 points within two hours, according to the FTSE 100 volatility history.

The current Gaza conflict has amplified this dynamic. Energy and defense sectors, which comprise 12% and 8% of the FTSE 100 respectively, according to a FTSE 100 sector breakdown, have seen heightened volatility. Energy stocks like BP and Shell surged 3.8% in late 2024 amid oil price spikes, while consumer discretionary sectors-such as personal goods-slumped by 5.3% as spending waned, according to a FTSE 100 resilience analysis. A Gaza peace deal, by reducing GPR, could reverse these trends. Historical precedents, such as the 2020 Abraham Accords, show that de-escalation can lower energy price volatility and ease investor anxiety.

Sector Rotation: From Risk-Off to Risk-On

The FTSE 100's sectoral composition amplifies its responsiveness to geopolitical shifts. During crises, investors typically rotate into defensive sectors like energy, utilities, and government bonds. For example, in June 2025, as tensions between Iran and Israel escalated, energy stocks outperformed while travel and leisure sectors declined, according to a Reuters June 2025 report. Conversely, a peace deal could trigger a "risk-on" trade, with capital flowing into cyclical sectors like consumer discretionary and technology.

Data from EY-Parthenon reveals that 60% of FTSE 100 returns between 2017 and 2024 were generated during major geopolitical events, often favoring energy and industrials. A Gaza peace deal might accelerate this trend, particularly if it spurs broader regional normalization efforts. The Abraham Accords, for instance, boosted bilateral trade between Israel and the UAE by 173% from 2021 to 2024, according to a Heritage Foundation commentary, indirectly benefiting UK-based multinational firms with exposure to Middle East markets.

The Path Forward for Investors

For investors, the key lies in anticipating sector rotation and volatility shifts. A Gaza peace deal could reduce the FTSE 100's 10-day volatility, which currently stands at 6.67 (down from a peak of 101.45 in 2008). Defensive sectors like energy and defense may underperform post-de-escalation, while financials and consumer staples could gain traction.

However, the UK's economic resilience complicates this narrative. Unlike oil-dependent economies, the UK's diversified base-anchored by financial services and healthcare-may limit the FTSE 100's sensitivity to Middle East peace deals. As noted by Financial Analyst in April 2025, "The UK's economic structure provides a buffer, but long-term geopolitical shifts could still reshape trade dynamics and sectoral performance."

Conclusion

A Gaza peace deal would likely reduce GPR and stabilize the FTSE 100, but its impact will depend on the broader geopolitical context. Investors should prepare for sector rotation shifts, favoring cyclical plays in a post-conflict environment while maintaining hedges in energy and defense. As history shows, peace in the Middle East is not a panacea for market volatility, but it is a catalyst for recalibrating risk.