Seismic Geopolitical Events Have Little Effect on Markets

There’s no doubt that geopolitical events have the potential to roil markets. And it’s equally true that consideration of the broader sweep of history and its attendant social transformations can offer intelligent investors a chance to profit.

So too, however, is it easy to miscalculate the impact of politics – and even significant military events – on the course of bull and bear markets. Especially in a world driven by 24 hour, live-hype media that would have you believe the sky is falling every time Mahmoud Ahmadinejad hiccups.

A great example of an historical event that directly impacted the longer term course of the markets was the fall of the Berlin Wall. For whatever it accomplished for the local Eastern European population, it was an undeniable boon to capitalism and the free markets that once defined them. And it contributed to a run in stocks that was to last over a decade.

The past few years have also featured events that were far reaching politically and militarily, but that had relatively little effect on the stock market. Even 9-11 can’t boast the financial impact that characterized other, equally momentous historical events. See the chart below:

Clearly, the 9-11 attacks had an effect on the market – but one that was overcome a mere four weeks later. In fact, the broad market surged roughly 2300 points in the six months that followed. That’s over 25%.

Take another example. From the commencement of the war in Iraq in March 2003 through to the implementation of the “Surge” strategy in 2007, the market, against conventional wisdom, nearly doubled, with the Dow Industrials rising from roughly 7500 to just over 14,000.

The market was simply ready to rally. And there was nothing anyone could do about it. It must have been galling for the anti-war types who pleaded that it would cost everyone – investors alike.

It wasn’t to be. When the market is ready to rise, it rises, even in the face of the least attractive geopolitical backdrop. And so, too, it happened this year.

2008: A Tale of Three Newsmaking Geopolitical Events

This summer was highlighted by a reasonably serious military confrontation between Russia and her former client state of Georgia. The battle was as much a matter of Russian pride as anything else, but had the clear intention of keeping Georgia weak if she could not be kept within the Russian sphere of influence. The battle was brief, and in the process Georgia lost control of her overland gas pipelines – a prize with which the Russians are still deciding what to do. In the meantime, Georgia is still operating and profiting from them, but the message was clear: stray too far and you lose this tremendous source of needed revenue.

Yet the Russians may yet decide otherwise. Their recent push to transform the Gas Exporting Countries Forum (GECF) into an OPEC-like cartel could potentially place a full three quarters of the world’s natural gas reserves and a full half of its production into the hands of just 15 states (led by Russia) – an eventuality that’s raising eyebrows in Europe especially, where the majority of its gas is piped in from points east.

Yet with all this, what happened to the price of natural gas? One would have expected the market to begin discounting something of a price rise. One would have expected a trace of worry. What, with war and the talk of cartels? Yet here’s the chart:

The nine day war had precisely no effect on the NYMEX gas contract. And we know the effect it had on the price of crude oil: another goose egg. Oil has dropped in price this year more than any other traded commodity – a gargantuan 75+% from its 52 week high. The Georgian conflict had no discernible impact on that decline.

So much for the pundits who suggested that the war marked a strategic change in the Caucasus, and that Caspian gas was about to be called in for a reorg. So much for bullish gas calls then or afterward. The market was looking longer term.

Mumbai Terror Sparks Golden Rocket?

The next newsmaking event that many believed would affect markets was the siege in Mumbai, an event that lasted for four days at the end of November, that played itself out in front of a global television audience (including India), and that had no measurable impact on the price of Indian shares. See the chart:

Not even the bellicose shouts between India and rival Pakistan could stem a significant market advance that followed the Mumbai attacks.

But surely this event would affect the price of gold. After all, the Indian market is the world’s biggest. Did the images of a capital overrun by a small band of well armed and trained terrorists send the general Indian public running to gold shops? What else could? And what of the gold bugs in the rest of the world? Chart, please:

No one cared. Like the Indian market, the gold market also shrugged off a major international news item that gripped the CNN/Al Jazeera-watching public the world over.

And that brings us to our finale. 2008 goes out with a bang as Israel looks to settle scores with long time thorn, Hamas, in the Gaza Strip. What will the markets say to this one?

It’s an interesting question because there are times when the market rallies on no news. Then there are other times when nearly any event seems an excuse to send the market soaring (or swooning). For some time now, traders have been suspended, waiting for a sign to come upon them that now is the time to buy (or sell).

It’s our belief that the Israeli action will be cause for such a breakout. We believe that breakout will be higher. And we believe it will come on news that the operation is concluded.

When exactly that will be, we cannot say. But it can’t be more than a week or two off. The market is coiled like a spring, and trading has been confined to a tighter and tighter range.

As Bob Dylan said: “Keep your eyes wide, the chance won’t come again.”

Disclosure: No positions

Comments

[Aly-Khan Sa...:]

Dear Matt,

A very interesting piece. May I challenge a couple of your conclusions.

The blow off top to $147.00 was substantially driven by fears that the US or Israel was readying an attack on Iran. Quite properly, the consequences of such an attack were impossible to model. Iran is not Iraq. It is a materially different proposition. Once the President ruled this out the market slipped into free fall.

Re: Gaza

The Gaza strip is best characterised as a prison. Therefore, besides lobbing a few totally ineffective rockets, there is no risk of reaction or contagion. Therefore, Gold and Oil were unable to rally. It hardly compares with the toppling of the Shah [for example] when Gold surged last time around.

Re: India and Mumbai

The Sensex is one side of the coin. Have you had a peek at the Karachi stock Exchange? Thats certainly reacted. The Sensex had already tumbled from over 20,000 to below 10,000. The attack whilst alarming was not material.

Re: Russia and Georgia.

Putin certainly served notice of a sort but within a few weeks, the Economy cratered world wide. Had that episode occurred in the early months of the year the reaction would have been entirely differently.

I wish you a wonderful new Year.

Aly-Khan Satchu
rich.co.ke

I have written a commentary all year here
www.rich.co.ke/rctools...

Please use the calendar to see comments and when.

2008 Dec 31 10:37 AM

[Greg Pinelli:]

Matt..thanks for at least mentioning geopolitical events on Alpha! There were, to my way of thinking, 2 (possibly 3) critical events for 2008.
The first, and most important, was the election of Barrack Obama. The prospective Administration has already had an impact in foreign affairs..the Israeli attacks on Gaza are a direct consequence of their estimation a new American day has arrived and they are going to have to fend for themselves in an exceedingly dangerous neighborhood...these are message attacks.
Obamas people will change the entire investment landscape with a speed that has become a forgotten thing in the Bush years...much more forceful regulation..huge programs..a virtual reworking of who gets what and how much.
Second, but of equal importance, is the recognition of Peak Oil (which is just as well renamed Maximum Oil Production because it causes less constipation among the deniers). The IEA of all groups used every euphemism BUT the real words Peak Oil to describe the reality we face. The current price collapse has only (and very temporarily) masked this phenomenon. All hell will be unleashed the next surge around!
The first casuality of Peak Oil..very likely Mexico. It's no coincidence that drug cartel violence and in your face activity is related to rapidly diminishing resources at the Govts disposal to deal with it.
Mumbai and Georgia are really sideshows..Russia is in NO position to do more than roll rusty tanks across a near border and make some noise. The Indians have no future fighting Pakistan because the country would crumble and then they'd have radical Islamist groups causing even more trouble......

2008 Dec 31 11:21 AM

[Greg Pinelli:]

Meant to mention a third possible event...I'm not convinced, however, that it won't be suoerceded by something that dwarfs it..that's the China train stoppages this past year..They caused a tremendous reevaluation among the Chinese people of the abilities of the Communist Govt to manage or control anything! This has led the Coastal market barons to be much bolder in defying edicts and directions.
This COULD prove an earth shattering first crack in even nominal communist control..real control might already be done. China has NEVER handled change well..stay tuned!

2008 Dec 31 11:32 AM

[Greg Pinelli:]

Aly-khan....I like the mention of the fall of the Shah..easily the most significant event in the Middle East in the past 30 years..a true geopolitical marker from which a lot of the side shows and struggles flow. My guess is we'll hear much less from Iran and about Iran in 2009..almost certainly neither Israel nor the US will even seriously contemplate an attack on them.
It will be very interesting to watch what effect drastically reduced money flows to radical groups funneled from the Saudis/Iran will have on Mideast power struggles (especially internal..Shia v Sunni).


On Dec 31 10:37 AM Aly-khan Satchu wrote:

> Dear Matt,
>
> A very interesting piece. May I challenge a couple of your conclusions.
>
>
> The blow off top to $147.00 was substantially driven by fears that
> the US or Israel was readying an attack on Iran. Quite properly,
> the consequences of such an attack were impossible to model. Iran
> is not Iraq. It is a materially different proposition. Once the President
> ruled this out the market slipped into free fall.
>
> Re: Gaza
>
> The Gaza strip is best characterised as a prison. Therefore, besides
> lobbing a few totally ineffective rockets, there is no risk of reaction
> or contagion. Therefore, Gold and Oil were unable to rally. It hardly
> compares with the toppling of the Shah [for example] when Gold surged
> last time around.
>
> Re: India and Mumbai
>
> The Sensex is one side of the coin. Have you had a peek at the Karachi
> stock Exchange? Thats certainly reacted. The Sensex had already tumbled
> from over 20,000 to below 10,000. The attack whilst alarming was
> not material.
>
> Re: Russia and Georgia.
>
> Putin certainly served notice of a sort but within a few weeks, the
> Economy cratered world wide. Had that episode occurred in the early
> months of the year the reaction would have been entirely differently.
>
>
> I wish you a wonderful new Year.
>
> Aly-Khan Satchu
> rich.co.ke
>
> I have written a commentary all year here
> www.rich.co.ke/rctools...
>
> Please use the calendar to see comments and when.

2008 Dec 31 11:48 AM

[Socialism c...:]

"least attractive geopolitical backdrop"

Your conclusions about various geopolitical events are wrong simply because you are mischaracterizing the events. Maybe to leftist peacenik Americans the Iraq war was an unattractive geopolitical event, but to millions of Iraqis, it is a new chance at life -- Hussein isn't coming for them in the night, women can now get an education, and free enterprise can get a foothold.

The real interpretation of events is as follows (boiled down very simply):

1) Islamo-fascism is at the root of many of these conflicts over the last decades (centuries?) -- just since 9/11/2001 we've had the WTC/Pentagon attacks, plus Chechnya, Mumbai, Gaza...and don't forget Madrid & London. Time to end the politically correct "Islam is a peaceful religion" crap.

2) The U.S. is weak morally -- and *that* has led to our economic decline. It will continue until the majority capitulate to this realization and change their views. I'm not encouraged, given that we've just elected a president who voted 3 times in the IL legislature for infanticide (voted against BAIPA).

3) Islamists see and sense this moral weakness -- they seek to impose Islam on the whole world -- they always have. It's in the Koran. If you aren't a believer, you are an infidel. You are either to be killed, or pay a "head tax" to be allowed to live. But if you live, you are to be subject to Shariah law...which is what is next on the agenda. BTW, there was a stink recently about AIG having received bailout money, and then being involved with selling Shariah-compliant financial products/services! It's already on the way, folks.

If America wants to *survive*, much less thrive, we'd better remember our Judeo-Christian roots, in a hurry: it's those founding set of moral principles based on the 10 commandments and belief in objective truth (as opposed to moral relativism and "you decide what's fine for you, I'll decide for me") that allow us to be free and self-governing. If we don't each rule our passions by will power and knowing right and wrong, then we need an external governor to impose order on us. By definition. And that is the reason we are tending toward a police state and are so overregulated -- we've lost the ability to self-regulate once the objective morals were tossed out.

Deny it if you want to, but it's not just the Muslims who look at America and see this coming:

www.drudgereport.com/f...

The guy is not some average schmuck just mouthing off -- he works at the Russian Ministry of Foreign Affairs, as a professor instructing diplomats.

Often, those with a problem are in denial, and it takes outsiders to see it. I really hope we will take a serious look at ourselves...I don't think it is too late...we can become a great nation again, but we must become good individuals again first.

2008 Dec 31 01:16 PM

[Ishortyou:]

Well, It will come down to a darwinian formula I guess.

2008 Dec 31 02:13 PM

[Greg Pinelli:]

I don't necessarily have problems with some of your conclusions..but what you're doing pal is ranting! Also..if YOU want to show people MORAL courage how about attaching your REAL name to those statements instead of hiding behind a slogan??
This is an INVESTMENT site not a forum for the angry and disenfranchised!


On Dec 31 01:16 PM Socialism cannot compete! wrote:

> "least attractive geopolitical backdrop"...

2008 Dec 31 08:48 PM

[bosun.j:]

@Greg Pinelli:

Good on ya Greg. Well said. Happy New Year!

On Dec 31 08:48 PM Greg Pinelli wrote:

> I don't necessarily have problems with some of your conclusions..but
> what you're doing pal is ranting! Also..if YOU want to show people
> MORAL courage how about attaching your REAL name to those statements
> instead of hiding behind a slogan??
> This is an INVESTMENT site not a forum for the angry and disenfranchised!
>

Jan 01 08:43 AM