How Does Geopolitical Risk Affect Markets?

Any international conflict, or the threat of conflict, such as current US/North Korea tension or any ‘shock event’ unsettles markets. 

The markets don’t like anything that could become a barrier to international trade and global economic growth e.g. when Russia and the rest of the world imposed economic sanctions on each other 18 months ago that was bad news for international trade and growth and all international companies involved in that.This is the fundamental economic part of market reaction.

There is also an additional secondary factor whereby international investors naturally become more cautious as they don’t know the future impact of today’s shock events i.e. how negatively economic growth will be affected. Furthermore they don’t know how today’s crisis will escalate: In a worst case scenario the current US /North Korea crisis could lead to global military conflict!

For investors this means that there is a ‘flight to safety’ at such times. This means a flight out of risky financial assets into safe financial assets.

So there will be a move

Out of equity markets (representing the fortunes both now and in the future of individual companies). Stock markets will fall.

Into fixed income/bonds issued by high quality borrowers such as the US, UK and German Governments e.g. prices of US Treasury bonds, UK Gilts, German Bunds will rise. Furthermore investors will also be most attracted to bonds that mature (the date you get your money back) in 1 -5 years time…rather than by bonds maturing in the more uncertain 20 or 30 years time.

Into the US Dollar perceived as the strongest currency in the world. Other currencies such as Emerging Market currencies e.g. Argentine Peso, Polish Zloty will be sold.

Into Gold. This is an unusual investment vehicle as it does not pay an interest payment like a bond or a dividend like an equity. But Gold has been around for 5000 years so investors are confident that if they invest in Gold their investment is going to be around for many years to come.

A simple summary: Equities are sold (prices move down).Bonds, Gold & US Dollar are bought (prices move up).

 

About Paul McCormick

Paul McCormick is the founder of Opening City Doors and is a Financial Market Specialist having worked for several leading Investment Banks and financial technology institutions additionally.He therefore provides a unique insight, and unusually broad perspective, into the opportunities available in London Financial Markets and related sectors and how to launch your career in the ‘City’.