Dr Shane Oliver
Head of Investment Strategy and Economics and Chief Economist
15 August 2017
Tensions with North Korea have been waxing and waning for decades now but in recent times the risks seem to have ramped up dramatically as its missile and nuclear weapon capabilities have increased. The current leader since 2011, Kim Jong Un, has launched more missiles than Kim Il Sung (leader 1948-1994) and Kim Jong Il (1994-2011) combined.
The tension has ramped up particularly over the last two weeks with the UN Security Council agreeing more sanctions on North Korea and reports suggesting North Korea may already have the ability to put a nuclear warhead in an intercontinental ballistic missile that is reportedly capable of reaching the US (and Darwin).
US President Trump also threatened North Korea with “fire, fury and, frankly, power” only to add a few days later that that “wasn’t tough enough” and “things will happen to them like they never thought possible” and then that “military solutions…are locked and loaded should North Korea act unwisely”. Meanwhile, North Korea talked up plans to fire missiles at Guam before backing off with Kim Jong Un warning he could change his mind “if the Yankees persist in their extremely dangerous reckless actions”.
Shares and wars (or threatened wars)
- World War 2 (September 1939-September 1945) – US shares fell 34% from the outbreak of WW2 in September 1939, with 20% of this after the attack on Pearl Harbour, and bottomed in April 1942. This was well before the end of WW2 in 1945. Six months after the low, shares were up 25% and by the time WW2 had risen by 108%.
- Korean War (June 1950-July 1953) – US shares initially fell 8% when the war started but this was part of a bigger fall associated with recession at the time. Shares bottomed well before the war ended and trended up through most of it.
- Vietnam War (1955-1975) – For most of this war US shares were in a secular bull market but with periodic bear markets on mostly other developments. Rising inflation and a loss of confidence associated with losing the Vietnam war may have contributed to the end of the secular bull market in the 1970s – but the war arguably played a small role in this.
- Cuban Missile Crisis (October 1962) – Shares initially fell 7% over eight days as the crisis erupted but this was part of a much bigger bear market at the time. They bottomed five days before it was resolved and then rose sharply. This is said to be the closest the world ever came to nuclear war
- Iraq War I (August 1990-January 1991) – Shares fell 11% from when Iraq invaded Kuwait to their low in January 1991 but again this was part of a bigger fall associated with a recession. Shares bottomed 8 days before Operation Desert Storm began and 19 days before it ended and rose sharply.
- Iraq War II (March-May 2003) – Shares fell 14% as war loomed in early 2003 but bottomed nine days before the first missiles landed and then rose substantially although again this was largely due to the end of a bear market at the time.
- Shares tend to fall on the initial uncertainty but bottom out before the crisis is resolved (militarily or diplomatically) when some sort of positive outcome looks likely;
- Six months after the low they are up strongly; and
- The severity of the impact of the war/threatened war on shares can also depend on whether they had already declined for other reasons. For example, prior to World War 2, the Cuban Missile Crisis and the two wars with Iraq, shares had already had bear markets. This may have limited the size of the falls around the crisis.
- Another round of de-escalation – With both sides just backing down and North Korea seemingly stopping its provocations. This is possible, it’s happened lots of times before, but may be less likely this time given the enhanced nature of North Korea’s capabilities.
- Diplomacy/no war – Sabre rattling intensifies further before a resolution is reached. This could still take some time and meanwhile share markets could correct maybe 5-10% ahead of a diplomatic solution being reached before rebounding once it becomes clear a peaceful solution is in sight. An historic parallel is the Cuban Missile Crisis of 1962 that saw US shares fall 7% and bottom just before the crisis was resolved, and then stage a complete recovery.
- A brief and contained military conflict – Perhaps like the 1991 and 2003 Iraq wars proved to be, but without a full ground war or regime change. In both Iraq wars while share markets were adversely affected by nervousness ahead of the conflicts, they started to rebound just before the actual conflicts began. However, a contained Iraq-style military conflict is unlikely given North Korea’s ability to launch attacks against South Korea (notably Seoul) and Japan.
- A significant military conflict – If attacked, North Korea would most likely launch attacks against South Korea and Japan causing significant loss of life. This would entail a more significant impact on share markets with, say, 20% or so falls (more in Asia) before it likely becomes clear that the US would prevail. This assumes conventional missiles – a nuclear war would have a more significant impact.
Implications for investors
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