How does conflict affect the stock markets?

Russia’s invasion of Ukraine has caused untold misery to millions of Ukrainians, shaken markets globally, and caused the price of oil and energy to rise. We know there will be lots of headlines written in the coming weeks about the crisis. There will be knock-on effects on the cost of energy and other unforeseen events because of the international response.

The crisis is deeply troubling, but as independent financial advisers, it is our responsibility to help our clients understand the potential impact of events on their financial plans and what they can do about them. It can be hard to ignore headlines but from an investment perspective, making big decisions in a crisis is never a good idea.

As Lothar Mentel, Chief Investment Officer of Tatton Investment Management put it recently;

“Markets are reasonably efficient around such events (conflicts); they go through a gradual process of discounting risk ahead of the event, rather than having a sudden unexpected dislocation as war starts.”

In the chart below, that Mr Mentel referenced, it is possible to see both a stock market fall occurring in the run up to a conflict actually breaking out but also in the long term the markets continued on an upward trajectory.

This conflict from an investor’s standpoint seems to be more about the potential of an energy price shock than potential exposure to a slump in the Russian and Ukrainian economies. JP Morgan’s recent note to clients said Russia-Ukraine tensions are a low earnings risk for U.S. corporates.

In a sense, the slump in performance that we’ve seen in global markets in the early part of 2022 has been influenced by President Putin’s aggressive actions but primarily by central banks tightening policy and inflation starting to bite.

Investors might be forgiven for thinking the worst has passed in terms of shocks to markets caused by the conflict. The crucial issue is whether the conflict becomes more involved than a regional conflict between Russia and Ukraine. Compared to the Crimea invasion, where the West did not strongly intervene, for example.

What happens now?

World leaders have put sanctions in place that will hurt the Russian economy and Russian expats. Quite how damaging they will be and whether they deter President Putin from invading other sovereign nations that were historically part of the USSR remains to be seen. The prospect of regime change in Russia is very slim given Mr Putin’s iron grip on Russian politics, so this may last for some time.

Investors will be watching and there will certainly be reactions to movements that may feel significant. What history tells us is that even in situations like Ukraine, global markets tend to find ways to continue, because in the wider sense, a conflict is less impactful on global equities than fiscal policy tightening across the board and inflation, two bigger issues that markets will grapple with in 2022.

There are numerous historical examples of major events such as the global Covid pandemic, the Iraq war, the financial crisis of 2008, and many others where taking a long term view on investments proved to be the right strategy.

Headlines will continue to be written in the coming weeks and there will be impacts on energy costs along with other unforeseen events. From an investment perspective, making big decisions in response to a crisis is never a good idea, so please speak to your Wren Sterling financial adviser before making any investment decisions.

Diversification and holding assets for the long term is likely to be the most effective strategy for seeing out the volatility caused by Russia’s invasion.

Our position

We recognise that appearing to focus on the economic impact of a deadly conflict could appear dispassionate. That is not our intention at all, more a recognition of our responsibility as financial planners for our clients and our clients’ financial plans.

We’re thinking of anyone with friends or family in Ukraine and we are all hoping for a peaceful solution to the conflict as quickly as possible, brought about in a diplomatic way by a cohesive international alliance of nations.

In light of this, we have made a donation to the British Red Cross Ukrainian Crisis Appeal.

We will continue to issue commentary on the economic impact over the coming months and if you are concerned about the impact of this situation on your investments, please contact your Wren Sterling adviser, or arrange an appointment.