2018
Dec 10
Ask Cadence: How does today’s geopolitical environment influence markets?
by Cadence WM |

There’s no question that geopolitical headlines can affect markets on any given day. An escalation of tariff disputes with China, a change in tone coming from the European Central Bank (ECB), tension with our allies in the Middle East – all of these things have the potential to move markets. What’s incredibly difficult to ascertain however, is in what direction. A funny thing happens in markets sometimes – news that should be bad for markets can have the opposite effect. In a world of central bank intervention where interests are strongly aligned with higher asset prices, sometimes bad news can be followed by, you guessed it, intervention. As a result, geopolitics can have very counterintuitive effects on market movements in the short term.

Over the longer term however, what’s most important is how these particular geopolitical themes might impact economic activity here at home and globally. Could an all-out tariff war with China lead to more expensive goods here at home which could hamper the U.S. consumer? Would a reduction in bond purchases from the ECB cause rates to rise toward more normal levels and thus cause disruptions in credit markets and the economy as a result? And how about tension with Saudi Arabia? Could that lead to less investment capital flowing into the U.S. and therefore less support for capital markets? Longer term, all of these issues present risk to the economy and markets.

Most important however is whether or not asset prices are vulnerable to begin with. Unless you’re a first-time reader, you know very well that stock, bond, and real estate prices here at home are super expensive on a number of levels. So yes, they are vulnerable to any type of ripple caused by geopolitics or otherwise. This is the important point to remember. When asset prices are stretched, if it’s not one of the potential risks that we see on our radar that causes problems for markets, it’ll be another one that we don’t see. When capital markets are priced for perfection, it’s just a matter of time before something causes that first domino to fall.