All aboard the geopolitical risk train!
It took one Brexit, one Trump, a close call with Geert, 59 Tomahawk missiles, and a whole helluva lot of Pyongyang saber rattling, but everyone is finally coming around with regard to the fact that geopolitics is going to be the dominant driver of asset prices in a post-central bank reality.
Last week no less than “Gandalf” himself said as much when JPMorgan’s quant wizard Marko Kolanovic reversed his “buy every dip” call, cautioning investors that now might not be the time to BTFD after all, given that between Trump, Kim, Assad, Putin, and perhaps most importantly, Le Pen, event risk is running high.
Given the decidedly tenuous backdrop, we thought the following out Sunday evening from Barclays was worth noting. Below find the bank’s “thoughts for the week ahead” which appropriately revolve around “geopolitical tensions.”
Thoughts for the Week Ahead: Geopolitical tensions in focus
Geopolitical tensions regarding Syria and North Korea and concerns about the French presidential election continued to weigh on risk sentiment. Safe-haven assets, such as the JPY and gold, appreciated sharply, while UST yields declined to YTD lows and FrenchGerman spreads approached the February highs. Despite that, most EM currencies have been holding up relatively well, which may reflect the ongoing global cyclical recovery.
Any rapid escalation of geopolitical tensions could exert greater effects on markets. To analyze such potential effects, we calculated the beta and correlation of currencies to the Geopolitical Risk Index 1 (GPR), which measures the frequency of words related to geopolitical tensions in leading newspapers, constructed similarly to the Economic Policy Uncertainty Index.
During periods of surging geopolitical risks since 2000 (ie, a rise in the GPR by more than one standard deviations), the CHF, USD, and GBP tend to outperform, while high-beta EM currencies (eg, BRL, IDR, TRY, and ZAR) and antipodeans (AUD and NZD) underperform (Figure 1). A rise in oil prices that often results from a surge in geopolitical risks may explain the relatively low outperformance of the JPY, a larger oil importer, and the underperformance of other oil importers (eg, KRW, TRY). The limited underperformance of the RUB despite its high-beta nature also supports this view. While this analysis provides generalized guidelines, we caution that geopolitical risks are idiosyncratic and unique (such as North Korea) and can have differing effects on markets.