Baron Rothschild, the legendary member of the equally legendary Rothschild banking family, said, “The time to buy is when there is blood on the streets”. It wasn’t just a nice soundbyte, he had skin in the game – he made his fortune by buying in the panic that ensued after the Battle of Waterloo (Anglo-French war that defeated Napoleon). As the Ukraine-Russia war rolls on to its third week, markets have tested investor vertigo with their super-high volatility. Uncertainty of war outcomes casts deep and additional shadows over normal market (white, grey and black) swans.
Wars have been traditionally good for stock markets. In select cases, most notably in the case of the US, they have also been good for the economy – it could be plausibly argued that America’s involvement in WW2, first as a supplier of material to Allied powers and then as a participant, finally broke the economic stagnation of the Great Depression. In the three major global wars over the last 100 years – WW1, WW2 and Vietnam – investing during the war yielded returns of 7 per cent annualised in the Dow Jones Index. In the context of long-term US stock market returns, this is a very good number, especially considering the fact that the returns immediately post the wars were dramatically higher too.
India’s own experience with wars has been equally positive. The two Gulf Wars (1990 and 2003), Kargil (1999), Op Parakram (2001), stand-offs at Doklam (2017) and Ladakh (2020) have seen markets deliver positive results for investors who invested during the conflict and held on for a reasonable time period (of 2-3 years).
A big reason for markets shrugging off wars, especially localised wars that have been the hallmark of conflicts since WW2, is that economic factors typically define outcomes more than the battlefield (or the warring sides). In 2008, there was a small war between Russia and Georgia – somewhat uncharacteristically investing during the war ended up being not terribly profitable during the duration of the conflict. But the big reason for that was the sub-prime crisis that tore through financial markets during that time.
This time its different?
However, every time things are a little bit different, even if final outcomes may not be. What the Ukraine war does is to complicate some fundamental business cycle issues that the world (and India) were grappling with even before the first Russian tanks rolled into Ukraine. The primary issue was of inflation – driven by high commodity prices (especially oil) and supply-side bottlenecks for a range of industrial goods and intermediates. While Russia is a relatively small economy by nominal GDP size, it is a large supplier of commodities, including oil. Sanctions imposed by the West on Russia disrupt supplies of many of these vital commodities, leading to hardening of generalised inflation.
Higher oil prices have all-round negative impact as India imports 84 per cent oil for its consumption. They act as a tax on incomes when fully passed through, and hence depress discretionary consumption. Every $10 increase in oil price results in a 0.2-0.3 per cent increase in the Current Account Deficit (CAD). Higher CAD puts pressure on the currency, causing further spike in inflation. A generalised spike in inputs and intermediates in a still weak consumption scenario shows up in the spread between the two key inflation indices – CPI (measuring consumer inflation) and WPI (measuring inflation of industrial inputs). Currently, the spread is at multi-decade highs – illustrating potential cost pressures even when consumer demand isn’t strong enough to pass on all these pressures.
Unsurprisingly, ongoing geopolitical tensions have resulted in a material price correction in the Indian markets. Beneath the headline indices, a range of stocks have corrected substantially, giving valuation buffers to many of them.
Further, the risk of war and inflation is well understood by policymakers. The RBI had not joined the global monetary policy hawkishness bandwagon before the war, and the war is likely to make it more cautious about an unwind of its accommodative stance. This should provide some monetary support for the Indian markets.
Meanwhile, US macros remain robust whether in terms of jobs, wage growth and consumption. Enough for the US Fed to have embarked upon its long-delayed normalisation of monetary accommodation. A healthy US economy is good news for Indian trade, with 30-40 per cent of Indian manufacturing being exports. It provides support to India’s exports that have lately started to look up after a decade-long funk.
It’s a ‘mixed bag’ situation for now. But a semblance of stability will have to await some level of resolution between Russia and Ukraine. While it won’t end the new tensions between Russia and the West (and increased complication in the US-China equations), it will enable everyone find a new datum level. While the world’s leaders work towards the same, all that investors can do is to steel up and stay the course.
The author is the Managing Partner and Chief Investment Officer, ASK Wealth Advisors. The views and opinions expressed in this article are personal.