What does the Russian threat to Ukraine mean for markets?

Markets had a nasty surprise late on Friday when the US warned that a Russian invasion of Ukraine could be imminent.

Stockmarkets fell, while oil and gold prices surged.

We’ll leave the boots-on-the-ground prognosticating to others. But, from an investment point of view, how much should you worry about this?

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War is awful but it doesn’t have a predictable impact on markets

I’m not a medical expert, so I’ve broadly resisted giving you my tuppence worth on Covid-19. Similarly, I’m not a military expert, so I can’t tell you anything useful about the odds of Russia actually invading Ukraine (again), nor can I talk you through the various military scenarios that might result.

What I can give you is some perspective on how war in particular has historically affected financial markets, and whether this is something that you should be taking into account when you invest.

And just a quick, obligatory disclaimer: I treat my audience like adults. But in case there are any non-adults reading, war is awful. Its impact (or lack of it) on financial markets is far from the least important thing about it. This just happens to be what I write about.

In the immediate wake of the news that a Russian invasion might be imminent, oil prices jumped higher – Brent crude oil rose above $96 a barrel at one point – and the gold price bumped up to over $1,860 an ounce.

Those are fairly typical knee-jerk reactions. The threat of disruption to supplies tends to drive oil prices higher and the threat of turmoil plays to gold’s “safe haven” reputation. The drop in US Treasury yields also reflected a reining in of risk appetite.

Thing is, unless you’re a day trader, none of this is all that relevant. As a long-term investor what you probably really want to know is whether this is something you have to take into account when thinking about your asset allocation.

The cold reality is that you almost certainly don’t. You don’t have to look back very far to see a few highly comparable examples. Russia invaded Crimea in 2014. And before that, Russia invaded Georgia in 2008.

Neither of those events were huge in market terms. And history shows that this goes for most geopolitical shocks.

As Mark Hulbert of MarketWatch pointed out a few months ago, a study by Ned Davis Research of 28 of the worst political or economic crises from 1941 to 2001 showed that in 19 of those cases, the Dow Jones index was higher six months after the start of the crisis.

To be clear, this doesn’t mean you should buy, nor does it mean you should sell; it just means that headline-grabbing geopolitical crises – including outbreaks of war, or terrorist attacks – don’t do much to move markets in the long or even medium term.

The long-term challenge to the US dollar

There’s an even more important point. Ben Carlson highlighted this on his “A Wealth of Common Sense” blog, back in January 2020. The big geopolitical concern back then was the US having another spat with Iran – one which didn’t actually come to anything, but was big enough to encourage another spate of “how does conflict affect markets” articles.

Anyway, Carlson’s point is that even if you had a crystal ball and knew exactly what was going to happen in the “real” world, the impact on the financial world would still be impossible to predict.

For example, the Dow Jones gained an average of 7% a year over the course of World War II. During the fortnight-long duration of the Cuban missile crisis, the Dow fell by just 1.2%. There are plenty of other examples where the market reaction and the volume of the headlines have been in pretty drastic opposition.

Are there any specific things we might want to pay attention to here? Dan Wang of Gavekal highlights one longer-term impact which might well be of significance.

One of the key potential deterrents here is economic rather than military. The US is looking at severe economic sanctions whereby companies worldwide would be prevented (or at least seriously hindered) from selling products to Russia.

There’s also the ability to ban individuals or corporations from transacting with US individuals or companies. Such a ban is “tantamount to an economic death sentence for any significant bank or firm, since it would lose access to US banks and hence to the US dollar system.”

The US dollar is the global reserve currency. In software terms, it’s the dominant operating system. Cutting an economic entity off from the US dollar is analogous to you trying to use a computer or smartphone while being prohibited from using Apple, Microsoft or Android software. There might be workarounds, but most normal human beings are going to struggle.

This is why America’s rivals are already very keen to set up some sort of “anti-dollar” system, be that a digital yuan, transacting in euros (as a stepping stone to something else), or something else.

Clearly this is something that a conflict in Ukraine could exacerbate. But even this is not new – the weaponisation of the US dollar began a long time ago, under the Obama administration, and it went hand-in-hand with America’s retreat from “muscular liberal interventionism”.

In short, if you’re wondering if the headlines about Ukraine should have you rushing to make changes to your portfolio, the answer is “no”. But if it has left you feeling panicky about the way your portfolio is positioned, perhaps you need to review what you own and why.