How War Affects Stock Markets
Over the past month, there’s been some increased risk of an actual war taking place with Iran. I’m not going to opine on the likelihood of that happening or not, but I do think understanding what this could mean for your portfolios is a warranted case study.
I know war brings times of uncertainty and when people get nervous, they panic. I hope what you’re about to see will help ease your mind. Let’s use this graph from the CFA institute blog as a good reference point for this discussion of past events. Take a minute and digest all these figures.
War: Is it Good for the Markets?
Now, let’s break this thing apart shall we?
At first glance, you’ll see that stocks in general (both Large-Cap and Small-Cap) have actually performed better during the past few war periods than they have all other years combined (using the time period of 1926-2013). Large-Cap stocks (represented by the S&P 500) during wartime actually did 11.4% vs 10% for all other time periods. While this outperformance doesn’t hold true for every war we’ve had, all but the Vietnam War have outperformed.
The more telling statistic to me is that none of these war periods had a substantial negative return. Heck, none of these wars even had a total negative return at all for stocks. This was really an astonishing statistic. It doesn’t mean there aren’t certainly areas that do worse during wartime periods, but as an aggregate, it seems U.S. stocks in general hold up fairly well during times of war.
The other interesting nugget here is that risk (or volatility) actually decreases during war times. Again, I found this astonishing, as one would assume the opposite to be true.
Bonds have a somewhat different story. While considered more of a safe haven, bonds performed substantially worse during wars. As a matter of fact, the Korean War even resulted in a negative return in Long-Term Bonds. Isn’t it interesting that with all the figures on that graph, one of the two only negative returns you see is in a fairly risk-averse, long-term bonds asset class?
To me, this was two-fold. First, I was curious myself what the markets did during wartime. The second is I received a call from a client who was getting a little antsy. My advice was we had a great long-term strategy and I didn’t think it deserved deviation.
Since that conversation, markets have been on the rise and war threats have somewhat subsided. This doesn’t mean that a new war won’t make markets fluctuate wildly, but historically speaking that hasn’t happened. We’ve found other factors affect markets more—such as economic growth, earnings, valuations, interest rates, inflation, and more.
Markets are a fickle beast to say the least. But, with strong guidance and a solid plan, we’ve found not overacting to short-term noise is the best medicine.
So, to answer the age-old question from Edwin Starr: “War, huh, yeah, what is it good for? Absolutely nothing!” It seems that at the very least, it’s good for the stock market, but guess that doesn’t make for such a great song does it?