BLOG: Geopolitical events shouldn’t dominate investors’ thoughts
Given the civil war in Syria, tensions between the US, China and North Korea, and pressure in the EU, should investors be concerned about the potential impact of geopolitical risk to their portfolios?
Geopolitical risk is never far from our TV screens and also from our portfolios. Worries over political stability and military conflict can shake equity markets, disrupt commodity pricing and cause a flight to quality in fixed income markets.
The closer the source of tension in question is to major pools of economic activity and corporate profits, the more events with deleterious effects of people’s lives will impact the financial markets.
Indeed, in the narrow field of investing, many of the current conflicts in the world are of little relevance. Will a worsening of the conflict in Yemen cause downgrades to any stocks in investor’s portfolio? Will the failure to secure a lasting political solution to the civil war in Syria generate a wave of defaults which impair the return of the same investor’s credit holdings? Unlikely.
Although these issues rightly desire prominence in our thoughts, it is geopolitical risk at home, and in the large investable market abroad, that matters most.
The array of issues and tensions between the US, China and North Korea certainly have the potential to cause significant disruption to Asian markets if tensions erupt. Yet all parties actually have the greatest interest in stability, and the current tensions, which have been present for many decades, have not prevented many of the nearby markets from delivering for investors during that time.
While we would be foolish to step away from such markets given their enormous potential, such risks do remind us of the importance of the portfolio construction to aid risk management. For example, government bond yields may be low but in a pinch their prices are still likely to rise as riskier assets lose value, therefore some allocation to them is always desirable.
When geopolitical risk is considered, the downside often looms large in investors’ minds. But investors need to think symmetrically about the issues.
There is no better demonstration of positive political risk than last weekend’s French election. Consider that just one year ago, the notion that a relative unknown could found his own political party, breeze past his established rivals in the first round and record a huge win in the run off, on the back of a pro-EU, pro-market reform platform, would have been deemed unlikely in the extreme.
Now it is reality, and investors should benefit from the consequences.
David Stubbs is a global market strategist at JPMorgan Asset Management