Taking Stock of Geopolitical Upheaval and its Effect on Markets
The Gist
- Investors remain nonchalant about the possibility of a full-blown conflict between Israel and Iran, with escalating hostilities not perceived as a significant risk to the global economy.
- Rebound from geopolitical downturns can happen just as swiftly as the initial drop, as observed in a historical study.
- For oil-price shocks to have a lasting impact on the stock market, they must slow down economic growth or elevate inflation, or both.
The Skinny
Stock Market Remains Unperturbed by Israel-Iran Standoff: Is Such Indifference Customary?
On a sunny Monday, markets saw a surge, with the S&P 500, Nasdaq, and Dow Jones playing catch-up, while oil prices dipped. Last week's hostilities between Israel and Iran didn't rattle investors, who seemed unfazed by the weekend's flare-up. This nonchalant attitude was evident in high yield credit spreads seeing a modest 2 basis point increase, signaling minimal risk aversion, and market indices remaining within striking distance of their all-time high.
Markets tend to recover just as rapidly from major geopolitical events. Per Deutsche Bank analysts Parag Thatte and Binky Chadha's survey, the S&P 500 typically drops about 6% in the three weeks following a geopolitical shock before bouncing back in the next three weeks. The low equity positioning today makes a larger sell-off less likely.
Geopolitical blips have a lasting impact on the stock market only when they influence the real economy – either by slowing growth or ramping up inflation. According to Deutsche Bank analyst Henry Allen, oil shocks are responsible for a handful of instances when the stock market felt the heat. Notable examples include the oil embargo in the 1970s and Iraq's invasion of Kuwait in 1990.
Recent Case Study: Ukraine Invasion
The most recent example of a geopolitical disruption to the stock market is Russia's invasion of Ukraine in 2022. The event elevated inflation above target, sending oil prices soaring more than 30% in a matter of weeks. This oil-supply shock accelerated already-elevated inflation, potentially forcing central banks to tighten monetary policy faster and harder than they would have otherwise.
While inflation has since moderated, Trump's tariffs and a potential escalation in the Middle East pose a renewed inflationary threat. If this materializes, it could limit the Fed's ability to cut interest rates if tariffs and high oil prices weighed on growth or the job market.
Historically, geopolitical events have a lasting impact on the stock market when they significantly affect the real economy, particularly by influencing inflation or economic growth. Other instances include the oil embargo of the 1970s, Iraq's invasion of Kuwait in 1990, and the attack on Pearl Harbor during WWII.
So, next time you're worrying about stock market fluctuations due to geopolitical troubles, just remember it's all about how these events affect the economy's fundamentals, such as inflation and growth.
tips@our websitePepperstone offers CFDsJoin now
Enrichment Corner
- 1970s Oil Embargo: The 1970s oil embargo, triggered by the Yom Kippur War, caused a sharp increase in oil prices, leading to high inflation and economic instability. This event had an enduring impact on the stock market.
- Iraq's Invasion of Kuwait (1990): This event resulted in a significant oil price shock, affecting global economies and stock markets. The subsequent Gulf War amplified market volatility.
- Russia's Invasion of Ukraine (2022): Russia's invasion exacerbated existing inflationary pressures by driving oil prices up, leading to higher interest rates and impacting economic growth. This had a sustained impact on the stock market.
- Pearl Harbor Attack (1941): Although not directly causing a sustained economic impact like oil shocks, the Pearl Harbor attack marked the start of U.S. involvement in WWII, with profound long-term effects on global geopolitics and economies.
- Despite the ongoing tension between Israel and Iran, traders in the stock-market seem to view the potential conflict as low-risk, as indicated by the modest increase in credit spreads and the indices remaining near their all-time high.
- In a similar vein, Initial Coin Offerings (ICOs) and token-financing are increasingly used in the world of investments, offering alternative ways for investors to participate in the financial markets and diversify their portfolios.
- Analyzing recent market trends, geopolitical events like the Ukraine invasion have a lasting impact on the stock-market only when they significantly influence the real economy, either by slowing economic growth or elevating inflation, or both – much like oil price shocks did in the 1970s and 1990s, and the attack on Pearl Harbor during WWII.
