Investing amid geopolitical risk


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EXACTLY three months ago, I was having lunch with Dr Neoh Soon Kean where we had a casual talk on the stock market and exchanged some macroeconomic views. What amazed me was the interesting observation he made back then.

As we were entering 2022, I asked him about his general outlook for the year ahead and if there were any major concerns that he foresaw.

I must say, at the time, Dr Neoh was probably one of the very few who highlighted the potential of Ukraine-Russia geopolitical issue becoming a real risk. He was also making allocation to his investment portfolio in anticipation of this impending risk.

In fact, at the time, many within the industry were optimistic that the situation would not escalate to a war or an invasion as it is today.

This is why experience and instinct is so important when it comes to investing. Time has proven again that Dr Neoh’s investment acumen is as sharp as ever.

Emotions dictate sentiment and cause knee-jerk reaction

When people started noticing the flood of news flows on the Ukraine-Russia war taking over the daily headlines, it roiled the capital markets.

The moment United States and its allies worked together on imposing sanctions and restrictions on Russia, including the removal of some of the country’s banks from the Society for Worldwide Interbank Financial Telecommunication (Swift), it led to the meltdown of the Russian stock market.

For instance, iShares MSCI Russia ETF (ERUS), which covers a broad range of Russian listed companies, has fallen from US$41.26 (RM172.71) on Feb 16, 2022 to US$8.06 (RM33.74) today, a staggering 80% drop within a month.

This sent shockwaves to market participants around the world. Fund managers, institutions and retail investors were all scrambling to switch their positions to be either defensive or to increase cash holdings significantly.

It was also why we saw FBM KLCI falling 50 points within a space of three days last week, in tandem with regional markets.

Bullish investors were caught by surprise as some felt that Malaysia is far and remote from the war, hence would not be impacted but rather be a beneficiary from higher commodity price driven by geopolitical risk.

That may be true but emotions dictate sentiments of investors, which lead to the inevitable knee-jerk reaction.

As a result we have seen a broad-based sell-off triggering margin calls when many companies (including those that have recently shown strong earnings in the latest reporting season) fell substantially.

Redemption of funds from unit trust and mutual fund holders during time of panic also exacerbate matters.

This is even more apparent with the technology sector where companies have fallen within the range of 30%-50% year-to-date as seen in the table. The magnitude would have been much worse if not for the strong rebound in US markets overnight.

Economy is interconnected

While the world has become increasingly nationalistic in their government policies, the economy remains interconnected.

Some quarters have viewed the US foreign policy strategy towards the Ukraine-Russia crisis as one that is squared around crippling their economy.

The thought process is premised on causing economy instability leading to the weakening of the Russian forces in advancing their agenda on the war front.

The problem with this idea is the impact on other innocent parties who may not have anything to do with the invasion at all.

These innocent parties who would bear the brunt of warmongers are the citizens, surrounding countries (where refugees would flee to from the war) and even people away from the epicentre of the war whose daily lives may face hardship due to inflationary pressure from high commodity prices.

Furthermore, those who suffer will always be the powerless, resource-limited and debt-dependent countries.

War, regime change and diplomatic tension

Throughout history, we have witnessed turbulence around the world which impacted countless lives. Diaspora of refugees and migration happened to escape unrest in their home countries.

Since the end of World War Two, while there were no wars on a similar global scale, there were other notable ones with substantial casualties such as the Korean war, Vietnam war, the war in Afghanistan and Iraq war.

Then, there were also numerous long-standing armed conflicts such as the Libya, Syria and Yemen conflict.

As the society progresses with the masses being educated and having heightened political awareness, regime change and diplomatic policies changes will become a norm. This is the essence of democracy.

Does it mean that investors will have to opt to stay sidelines whenever a major event crops up or learn to cope with the volatility of the market by building a diversified balance portfolio accordingly? I believe it is the latter.

Blaming correction on geopolitical risk

Still, there are investors who were caught up on the hype chasing tech stocks at a high are now blaming the correction on the Ukraine-Russia war. That is actually not true.

Investors have to take cognisance that the Ukraine-Russia conflict provides a reason for the sell-off but it is not the cause of it.

It is a catalyst for funds and investors to take shelter away from riskier asset leading to rotation of funds, but it is not a fundamental reason. This is because during a sell-off in such events, it is mostly a broad-based movement.

I have been vocal about the exorbitant valuation of technology stocks on Bursa Malaysia for the past one year and highlighted the risk of a mean reversion. Many of these companies as per Table 1 have indeed corrected significantly within a short space of time.

Yet, it does not mean these are bad companies. In fact, these are very good quality companies trading at an expensive valuation which is deterrent for many investors.

When the share price corrects, it then provides opportunity to long-term investors who would otherwise be priced out. This logic is applicable not only to the tech sector but in general as well.

All in all, in spite of the turbulence over the last century, the capital markets remained intact and continued to perform over a long duration of time.

This effectively means that while geopolitical risk are real threats to investment returns, if investors extend their investment horizon, in the long run, these are mere blips in the grander scheme of things.

Ng Zhu Hann is the CEO of Tradeview Capital. He is also a lawyer and the author of “Once Upon A Time In Bursa”. The views expressed here are the writer’s own.

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