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North Korea: Does “fire and fury” rhetoric mean a scorched-earth portfolio?
7/18/2018 4:51:40 AM
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Investment management insights from a leading Canadian expert.

By Tyler Mordy  | Thursday, August 24, 2017


What danger does North Korea present for global investors? Clearly, U.S. President Donald Trump’s indulgence in nuclear brinksmanship carries risk. The risk of North Korean dictator Kim Jong Un firing missiles at U.S. territory in the Western Pacific is also real. And there is a global existential threat should it ever escalate into intercontinental warfare. Yet, rather than add to the volumes of prognostications about North Korea’s specific situation, consider the track record of major events and their impact on markets.

First, most geopolitical events are false alarms. As card-carrying members of the change-anticipation field, we understand the desire to divine the big events. To be first to spot the outlines of a looming disaster can be glorious (and career-enhancing).

But most warnings are false alarms simply because big turns are rare events. Remember Y2K, Saddam Hussein’s so-called “weapons of mass destruction,” and more recently, Brexit? None of the widely-feared consequences of these threats materialized, and mostly, the outcomes have been manageable.

Second, more often than not, geopolitical events create opportunity. Rummaging through past post-crisis periods produces a long list of stellar returns after the initial event. For example, the Cuban Missile Crisis in October 1962 was a 13-day confrontation between the U.S. and the Soviet Union, widely considered the closest the Cold War came to full-scale nuclear warfare. However, after the crisis subsided, the Dow Jones Industrial Average went on to gain more than 10% that year. Another instance was the Korean War, when the North invaded the South. This conflict lasted from June 1950 to July 1953. During that time, the Dow was up an annualized 13.6%. History is brimming with similar examples.

Finally, geopolitical events may have binary outcomes. By this, we mean that a negative scenario would produce either an extremely large portfolio loss or gain. There is no knowing which ahead of time. As such, narrowly focusing on one type of risk is speculative at best.

What’s more, such speculation hinges upon achieving two near-perfect tactical portfolio actions. One is getting out at the right time; the second is to get back into the markets at the right time. The first decision is difficult at best. The second step is often overlooked. There are plenty of analysts who have predicted doom (most far too early) only to fail to re-invest at the appropriate time. Both errors can be catastrophic.

Consider that investors who went to cash before the 2008 global financial crisis looked like heroes for a time. Less widely reported is that a large proportion of them utterly miscalculated their re-entry. Even today, after missing out on a 150% rally in global stocks since early 2009, many of these doomsters remain defensively positioned.

A far better approach is to accept that a wide possible set of scenarios may unfold. From there, investors can insulate against a number of outcomes by diversifying portfolios across global investment classes and also readying them for a change in the macro outlook.

Investment implications

Not a small number of people have become financially poor continually trying to avoid popularly-perceived risks by running for the hills. They fail to realize that if there were no risks for which to be compensated, there would be no returns possible above a bogey risk-free rate.

But that doesn’t mean that one shouldn’t manage risks. To the contrary. What we advise against is a non-diversified definition of risk. Now that “fire and fury” has caught the world’s eye (whether based upon real facts or orchestrated histrionics), everyone is focusing on only one form of risk – a “double dare” shouting match between two politicians. Sadly, most investors will continue to suffer for their behavioural weaknesses, while longer-sighted strategists with strong risk management disciplines make off with gains.

Tyler Mordy, CFA, is President and CIO for Forstrong Global Asset Management Inc., engaged in top-down strategy, investment policy, and securities selection. He specializes in global investment strategy and ETF trends. This article first appeared in Forstrong’s Gobal Thinking feature. Used with permission. You can reach Tyler by phone at Forstrong Global, toll-free 1-888-419-6715, or by email at . Follow Tyler on Twitter at @TylerMordy and @ForstrongGlobal.

Notes and Disclaimers

© 2017 by Fund Library. All rights reserved. Reproduction in whole or in part by any means without prior written permission is prohibited.

The foregoing is for general information purposes only and is the opinion of the writer. The author and clients of Forstrong Global Asset Management may have positions in securities mentioned. Commissions and management fees may be associated with exchange-traded funds. Please read the prospectus before investing. Securities mentioned carry risk of loss, and no guarantee of performance is made or implied. This information is not intended to provide specific personalized advice including, without limitation, investment, financial, legal, accounting or tax advice.

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