INVESTMENT STRATEGY

Liz Looks at: Geopolitical Risks

By: Liz Young and Mario Ismailanji · April 25, 2024 · Reading Time: 5 minutes

Not Cut From the Same Cloth

Lately, it seems every week brings a new topic of geopolitical tension or concern. Given the increasing number of risks around the globe, we took a dive into what has happened so far and what we might expect from markets in response.

To lay the groundwork, despite all of the recent headlines surrounding the Middle East, ongoing conflicts between Israel and Palestine, Russia and Ukraine, rising tension between China and Taiwan, and currency volatility in Japan, the broad Geopolitical Risk Indicator remains below prior peaks.

Let me be clear, all of these spikes were notable, and all of them deserved heightened awareness and risk management, as do the current risks that exist. What we’re finding though, is despite the panic that can ensue as headlines hit the wire, markets tend to move on quite quickly… except when certain conditions are present.

Longer Threads Make Larger Threats

The most recent “historical” shock we can look to is Russia invading Ukraine in February 2022, which wreaked havoc on global commodity markets and risk assets. The outsized moves in natural gas make the other lines on this chart below appear calm, but none of them really were. And as we know, this conflict is still not over.

We recognize that the tensions between Russia and Ukraine and Middle Eastern countries are different, but the effects on markets are what we’re focusing on.

The initial shocks were large, especially to energy and agriculture, and although some of that early spike cooled off shortly afterward, the levels remained elevated and markets never “fully” recovered.

Markets are resilient in the face of stress, which we can see over the course of history. But they are less resilient when that stress begins to have clear lasting consequences. In the case of Russia/Ukraine, the sanctions that were put on by various nations prevented markets from recovering quickly. Add to that the continuing threats and actions surrounding the natural gas supply between Russia and Europe — and markets had to get comfortable with the idea that this geopolitical shock had turned into a geopolitical phase that wasn’t showing signs of resolution.

Volatility continued in earnest for six months, and in smaller fits and starts it carried on through the rest of 2022. This instance turned out to be a geopolitical shock with lasting consequences, and ones that were clear to markets early on, which created the conditions for lasting volatility and “shock factor”.

Pins or Needles

Fast forward to the present, and global markets are once again facing heightened geopolitical risk, this time in the Middle East. But this has been different, at least as far as the market is concerned.

We’ve had a number of mini spikes in oil since the initial attack in Israel, only to see prices right back where they started before the conflict began. Not to mention, Iran got involved in the last few weeks and still… oil prices and equities have shrugged it off.

Does that mean it’s over? No. Does that mean markets are insulated from it? No. What it means is that markets cannot identify what the clear and lasting consequences may be, partly because there haven’t been any changes in trade relations so far, and no other regions have become materially involved. Expectation seems to be that if it doesn’t escalate further, commodity prices are not at longer-term risk of spiking.

The conundrum that still exists is the strength of gold, which has most certainly not returned to previous levels and continues to warn of some type of global event risk.

Fabrics and Foundries

In addition to the here and now, there are always risks visible on the horizon. Perhaps the biggest and most obvious is a potential conflict between China and Taiwan. China ranks as the second-largest economy in the world and the top exporter of a wide range of goods. Taiwan is smaller, but boasts greater than a 60% share of the global semiconductor market, and over 90% of the advanced chip market.

It’s impossible to predict if or when tensions could turn into something more serious. And even harder to predict the level of severity or spread, even if things heated up. Either way, history can serve as a guidepost in mapping out the possible impacts of a conflict.

There’s no way to sugarcoat it: A conflict could have extreme consequences — for people, for economies, and for markets. There are always risks out there, and while it’s important to be aware of them, it would be overly conservative to try to protect a portfolio against all of them. A conflict between China and Taiwan would be a big deal, but it’s not yet a big deal. We can be smart about limiting the concentration in portfolios to ensure there isn’t any outsized exposure to a potential shock, but geopolitical events have a way of turning out differently than we expect… sometimes for the better, and sometimes for the worse.

Responsible risk management includes an awareness of the possible big shocks, a general reduction in portfolio risk as external threats increase, and a more active eye on events and market moves. An approach that reminds me of something my Dad used to say on the basketball court or the baseball diamond, “look alive!” and always keep playing the game.

Want more insights from SoFi’s Investment Strategy team? The Important Part: Investing With Liz Young, a new podcast from SoFi, takes listeners through today’s top-of-mind themes in investing and breaks them down into digestible and actionable pieces.

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Communication of SoFi Wealth LLC an SEC Registered Investment Adviser. Information about SoFi Wealth’s advisory operations, services, and fees is set forth in SoFi Wealth’s current Form ADV Part 2 (Brochure), a copy of which is available upon request and at www.adviserinfo.sec.gov. Liz Young is a Registered Representative of SoFi Securities and Investment Advisor Representative of SoFi Wealth. Her ADV 2B is available at www.sofi.com/legal/adv.

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