After President Donald Trump promised to unleash “fire and fury” on North Korea if it continued making threats to the United States, Schwab’s chief investment strategist, Liz Ann Sonders, examined the potential implications of this on stocks in her latest commentary.
First, Sonders makes a note that, collectively at Schwab, they “believe the likelihood of military action remains low.”
“The initial effect of the battle of wills between Trump and Kim [Jong Un, the North Korean leader] was a swift reversal in U.S. stocks to the tune of a nearly 1.5% drop [on Aug. 10] (having been at all-time highs just prior); with an attendant spike in volatility,” Sonders writes.
According to Sonders, this was only the fifth time this year that the market was down more than 1%, and she called it “one of the nastier reversals of the current bull market.”
Sonders looked back at history in terms of military conflicts, along with other significant historical events, to see the impact on U.S. stocks in the days, weeks and months after.
She finds that there was typically some weakness in stocks concentrated in the first few months after the event but a bit more strength thereafter. For example, when Germany invaded France on May 10, 1940, the S&P 500 was down 3%. Twenty days later, it was down 23%, but 125 days after was down only 3%.
Similarly, when President Richard Nixon resigned on Aug. 9, 1974, the S&P 500 was down almost 1%. Twenty days later it was down even more, by almost 14%, but 125 days later was down about 3%.
“Of course, there were many other things going on both in economic and market terms during these events, many of which were greater contributors to market weakness than the historical event itself,” Sonders notes.
Then Sonders looked specifically at events involving North Korea. The Wall Street Journal analyzed 80 international incidents involving North Korea and its nuclear program since 1993 and found little connection between tensions on the Korean Peninsula and financial markets, she writes.
“The 36 North Korean nuclear or missile tests detailed by the Arms Control Association were followed on average by a decline of 0.4% for the S&P 500 in the subsequent trading session, with a rally thereafter in the majority of instances,” she writes.
The historical event being cited most often as a (loose) parallel to the current tensions with North Korea is the Cuban missile crisis in 1962. During that period, the S&P 500 did suffer an 11% correction from August to October but then had a massive 18% rally into the end of the year.
Sonders remains of the view that these pullbacks — or even a correction — are in the context of an ongoing secular bull market.
“Important supports continue to be very strong: U.S. corporate earnings and revenue growth (along with deregulation); a “Goldilocks” not-too-hot, not-too-cold global economic/inflation environment; and still-ample global liquidity,” she writes. “Ultimately, those are the primary drivers of where stocks are in their cycle.”
While this bull market will end eventually, Sonders says it’s unlikely that tensions between North Korea and the United States will be the catalyst for that – “barring an escalation into a war,” she adds.
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