Mohamed El-Erian says that while it may not be time to panic, it is time for global investors to worry.
The former CEO and co-CIO of PIMCO, now chief economic advisor to Allianz, wrote in Monday’s Financial Times that the markets’ tranquility may be misguided.
“While each geopolitical shock has been small on a standalone basis, in aggregate they are starting to affect a more meaningful part of the global economy,” he wrote. “And few, if any, can be resolved easily. Meanwhile, leaders in Europe and the U.S. will come under increasing domestic pressure to act more forcefully externally, weakening the circuit breakers.”
In other words, the West’s approach to the crisis in Crimea, Turkey, Syria, Thailand, Venezuela and elsewhere — basically equivalent to muddling through — may not be enough for investors and voters.
“Markets have been sanguine about geopolitical risk for several years now, a phenomenon illustrated by the relaxed approach they have taken to Ukraine’s crisis,” he noted. “There are understandable reasons for this, but contrary to a popular saying, this could well be a case where the trend is not necessarily the markets’ friend.”
Year to date, the S&P is up some 1.5%, while the Vanguard Total World Stock Fund (VT) is down close to 1%. Gold, meanwhile, has risen about 10% since Jan. 1.
In El-Erian’s thinking, the markets this year have “had little problem digesting a major change in the map of Eastern Europe.”
But Ukraine’s social and political situation “is far from stable,” he stresses. “And many believe President Vladimir Putin’s ambition may extend to other parts of Ukraine.”
The economist points to several factors for the market’s current ambiguousness. For instance, he explains, “a powerful dose of adaptive expectations and behavior” has become a self-fulfilling prophecy: “After all, markets love consistent trends, and the pattern of quickly fading geopolitical disruptions has been profitable for some time,” El-Erian explained.
But the way that these political crises are evolving warrants a different approach, he argues, since they “are starting to affect a more meaningful part of the global economy.”
In addition, the tensions creating the recent geopolitical shocks cannot be easily resolved. Tensions between the West and Russia, for instance, could easily escalate — potentially throwing the global economy into a recession.
El-Erian says this “is not the most likely scenario.” However, the current geopolitical equilibrium is “fragile,” he adds.
Though the global situation may be able to maintain its delicately stability, investors “should guard against complacency based on a simple extrapolation of the past,” he warns.
The reason? “Underlying geopolitical tensions around the world have been gradually building towards a tipping point,” El-Erian concludes. “Should this continue, it would quickly become evident that many markets are underpricing geopolitical risk.”