Analysis of war effects on the stock markets

Author: Andrea Sferrazza Papa

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Date of Publication: 05/05/2022

We consider war as a complex phenomenon of mass destruction, which damages can affect all the countries of the world in different ways. There are many points of view for analyzing the repercussions of a conflict, and it is very difficult to isolate the effects on each area. This article aims to illustrate the main repercussions on the financial world, certainly accompanied by government measures and changes in spending (and possibilities) habits. Recall that today's world is the center of a globalized economy. Therefore, each state intertwines many commercial relationships, imports and exports, which exchange goods, materials, currencies, etc.

Certainly, the balance of these relationships is the first to fail in the event of war. Focusing on the stock market-world, defining the behavior of the lists is difficult. Indeed, every conflict has its own context. Beyond this, we must consider the differences between the various conflicts: their duration, number of nations involved, location of the clashes ecc. However, one way to understand stock market reactions is to look at what has happened to prices in the past. It is appropriate to analyze the trend of a price list that was able to maintain a large part of the exchanges during the whole war.

Before coming to examples, it is necessary to specify the opposite side: that is, there are underlying historical trends.An interesting evaluation comes from a survey carried out by Mark Hulbert. The famous US commentator analyzed the reactions of the Wall Street Stock Exchange due to the war on seven occasions: Grenada '81; Panama '89; Gulf Wars '91 and '93; Afghanistan '01; Libya 11.

The common observation consists in the trend between the months preceding the conflict and the outbreak of the same. As long as we await the future conflict, stock prices fall. Subsequently, when the war breaks out, the stock market follows an upward trend. Strange as it is, such a phenomenon responds to a simple explanation: the stock exchanges do not like uncertainty. Therefore, the uncertainty linked to future conflicts increases volatility, together with bearish positions. Once the conflict has started, however, uncertainty decreases, and purchases increase.

The case of the Second World War

An example is offered by the Second World War. In particular, until April 1942, we witnessed the decline of the Dow Jones. In other words, Dow Jones Industrial Average is the best known stock index on the New York Stock Exchange. Then, in the second half of the year there is a reversal of the trend. Why? Not all experts agree.

They underline how in that period, on the one hand, the advance of the Nazis in Europe lost momentum; and on the other, the Japanese fleet suffers defeat in the Midway archipelago. In short: various events follow one another that lead one to think that the war is being directed in favor of the allies. In other words, a turning point is realized. A point that expresses the confidence that there may be a positive outcome of the conflict. From there the investors begin to push the list. In the end, between September 1939 (invasion of Poland) and May 1945 (year of the surrender of Germany) the American Dow Jones index gained about 23%.

Then the lists underwent a new phase of volatility in conjunction with the signing of the armistice of 1945. Also in this case it was the uncertainty of the future that shook the markets which, subsequently, resumed growth taking advantage of the climate of post-war euphoria. We observe how the lists course is very different in every different case, but also keep a sort of historical trend as we said, as being averse to uncertainty. In fact, investors fear the lack of control over current events much more than the war event in general.

Current events

We focus now on what we observe every day through the news. Since two months ago, a new war has been underway between Ukraine and Russia, which is also impacting all other countries in different ways. This time, we can analyze the repercussions of this conflict by considering the role of these specific countries in the world organization. Regardless of the reasons for this conflict, numerous countries, including Italy, have accused an increase in price of many resources, materials, fuels, etc. Something like these certainly impacts people's way-of-living, spending habits, saving trends. And all this certainly has repercussions on the choices made when the markets are open.

Starting from the everyday life of the ordinary citizen, we can already argue the impacts on commodities: Ukraine and Russia export approximately 30% of the world's wheat, a resource which is obviously experiencing many shortages and price increases. The same can be said of gas and fuel, of which Europe is a major consumer of Russia. It is clear this lack of materials is balanced by a large increase in prices.

Let's now look at more general reflection in stock market movements:

Faced with the international difficulties caused by the clash, the stock exchanges of many countries have lost several points. In Italy, the FTSEMIB index lost about 15% in a short time. European stock exchanges lost about 10 %.

Many of these worsening are due to the sanctions imposed on Russia by the European Union: The European Union has in fact banned all transactions with the Russian National Central Bank. The lists show Russian stocks down by about 50% and, among other things, the ruble (Russian coin) also depreciated by about 15% against the dollar. This is a major blow to the Central Bank and the Russian currency market.

Another argument that can be presented concerns inflation. We know that inflation moves like a general increase in prices, being a phenomenon with many effects that can hurt the activity of banks. Also, we know that inflation level is always monitored by the activity of the Central Banks. So, looking at the macroeconomic scenario, the context does not seem different from the management of the pandemic.

In fact, everything focuses on the relationship between supply and demand, with consequences on prices. Specifically, the lack of production (less supply) causes price increases (inflation), which Central Banks can only manage through demand and liquidity management in other banks. Thus the macroeconomic projections, on which monetary authorities rely to define their policies, appear more uncertain in this context. Therefore it is difficult to understand in which direction the Central Banks will move.

Not only that. Numerous authoritative international voices have focused on the evolution of the conflict, and try to establish what the future movements of the markets could be. For example, Forbes addresses the possible long-term effects of the conflict, also considering the evolution of supply chains (global for the most part). This analysis focuses on how a climate of uncertainty and rising costs leads to fragmenting supply chains, favoring the local supply of any resource.

What can we say about possible future changes?

From the point of view of resources and their impact on life in the country, it is certain that Europe will try to source energy from non-Russian countries. This probably means at higher cost than they have been paying. In addition, many agricultural products, starting with wheat, may be more difficult to procure and at higher costs. Therefore, this certainly affects the state of tension and daily life of all citizens of the world.

Moreover, market movements are being targeted by investors. Also, the uncertainty about the duration of the conflict is mainly the enemy of the acquisitions, as it is unpredictable. For example, historically, the stock exchanges took about 15 sessions to recover from major conflicts in history. It will be precisely at that moment that sales start again and the market becomes more liquid. So, a good conclusion is to recite a maxim attributed to Nathan Rothschild, a famous English banker: "Buy when the cannons are firing, and Sell when the trumpets are blowing".


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