In Scope:

US-Korean War of Words

July 2017


US-Korean War of Words roils markets

Have you been sleepless at night in recent weeks because of the North Korean missile tests and tweets by President Trump? Should we be worried about our portfolios?
 
You are not the only one worrying. Financial markets turned nervous this week, leading to weaker stock market sentiment, falling bond yields and renewed flight to safe havens, like the Swiss Franc, Japanese Yen or gold.
 
In this summer holiday period, with only a scarce amount of news items, the Korean conflict has drawn extra news attention. Indeed, the thought that the North Korean regime has nuclear capabilities is worrying, as is the unpredictable behaviour of President Trump. Still, for the moment, the conflict remains limited to an exchange of unilateral declarations and threats.
 
The declines on stock markets should be relatively short-lived. Investors may be using the uncertainty as an excuse to take profits, especially in the US, where the indices are at record highs.
 
We therefore see no reasons to alter our investment strategy. If the tensions would further escalate, we will provide an update of our assessment and, if necessary, actions in our portfolios.
 
A few years ago we analysed the impact of major post –war geopolitical events on the financial markets. A summary of the updated conclusions is provided below.
 

The world is not a safe haven

In the post-war period (WW II) we have identified ten crisis periods, ranging from the Korean War of 1951-53 to the various conflicts in the Middle East and the turning points of the Cold War before ending with the invasion of Iraq of 2003.
 

Stock markets respond only rarely

In just one out of every four cases did stock markets respond at all significantly (and in the expected direction) to these historical events. So not really a good predictor. International conflicts do not have a major bearing on the stock market climate. When conflicts drag on (as in the case of the Korean War), familiarity also sets in and the markets barely respond to fresh developments.
 

It’s the economy, stupid

The macroeconomic environment is the most important driver behind the equity markets. Markets only react strongly if conflicts threaten the economic environment in the western world (especially the US). This applied particularly in the early 1970s, when the war in the Middle East led to an oil embargo and a severe recession. We are keeping a close watch on the escapades of such people as the North Korean leader Kim Jong-Un and the Russian president, Vladimir Putin, and the responses of the new US president but are concentrating in particular on the economic outlook, and for the time being this looks peaceful (and also notably bright).