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Wars Are Often Bullish, But the Next One Has "Stock Market Crash" Written All Over It Lombardi Letter 2018-04-12 16:36:39 syria defense sector iraq war russia cuban missile crisis nuclear arsenal Another global conflict looks to be looming on the horizon. What does this mean for the American economy? Could this mean another stock market crash? Here are the details. Analysis and Predictions 2018,Stock Market Crash,U.S. Economy,U.S. Politics,World Politics https://www.lombardiletter.com/wp-content/uploads/2018/04/Stock-Market-Crash-150x150.jpg

Wars Are Often Bullish, But the Next One Has “Stock Market Crash” Written All Over It

stock market crash

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War in Syria Could Bring a Major Stock Market Crash

Serious things are about to happen. The market correction continues. If the Dow Jones has not taken a more decisive dive toward a full-on stock market crash, it’s because defense sector stocks have remained close to their highs. The question that remains is, how high could these go?

In some ways, the defense sector is now as solid as gold. It’s a safe-haven investment. Here’s why.

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The markets have changed, with a rise in interest rates and volatility serving as catalysts. It’s no longer a time for passive investors—those who like to “set and forget” (as an old commercial recited). In 2017, especially toward the end, the market was ideal for passive investors because it seemed that throwing darts on a board was as good an investment approach as any; the markets were setting new highs daily.

The market was a virtual rising tide, lifting all stocks. These highs have ceased and, with them, the tide has gone out.

Many Have Forgotten How to Distinguish Good Investments From  Bad

The market now rewards only those who can distinguish between good investments and bad ones. The defense and aerospace sectors remains a good sector, perhaps even the best sector for the short and longer terms. That is, until U.S. foreign policy changes radically.

Given that President Donald Trump has been swayed to push more of the “same old same old” that Americans have endured since 2001 (if not earlier; recall the Yugoslavia campaign in 1999), there’s no end in sight yet.

Rather, there’s an intensification. By the time I write my next article, Americans might be involved in another war involving Russia. Indeed, as I write this, the world is at another moment like that of the Cuban Missile Crisis.

There have been a few such moments in 2011 and 2018. Some even managed to influence the bond market. That was when Trump and North Korea’s Kim Jong-un started waving nuclear apocalypse threats. It seemed that few took these threats or gestures very seriously, even as the Pentagon fueled speculation about the evolution of American nuclear doctrine.

We’re About to Find Out How the New Nuclear Policy Works

We may be about to find out, sadly, just how evolved the U.S. nuclear policy has become. It’s no longer just about deterrence, which it has been since the end of the original Cold War against the Soviet Union. The Pentagon’s new goal for nuclear weapons is to enhance conventional strikes to target the arsenals of rivals such as North Korea.

Or it could be used against Russia, should the current escalation of tensions—including the deployment of warships in the Eastern Mediterranean off the Syrian coast—lead to a military strike against key Russian interests.

The U.S. Cannot Afford Another War

How could this all play out? Apart from the military and strategic considerations, note that the United States is in no position to afford a major war. The U.S. national debt continues to rise, which doesn’t bode well for the overall economy.

Depending on the outcome of Trump’s bravado in Syria, defending the U.S. will not only remain a priority, but will become a much bigger one. That’s because attacking Syria now means attacking Russia, the only superpower able to retaliate and exact a huge toll on U.S. resources.

The United States can conduct multiple wars and assemble a mighty military force, in terms of both manpower and equipment, thanks to the supremacy of the U.S. dollar and its ability to run on debt. China, whose interests in Syria align with those of Russia, could make problems by dumping U.S. treasuries, making the debt unmanageable.

The U.S. federal government debt is about $21.1 trillion; at the beginning of 2008, it was just $9.2 trillion. Thus, in over a decade, the U.S. national debt has increased about 130%. (Source: “The Daily History of the Debt Results,” TreasuryDirect, last accessed April 12, 2018.)

The war that Trump appears to be starting could accelerate the rise of the debt significantly. As you ponder that, remember that Trump also lowered taxes for those who cumulatively produce the biggest tax bounty: the richest individuals and corporations.

Almost as soon as he entered the Oval Office, Trump said that he would “modernize” (which, in fiscal language, translates to “great expense”) the U.S. nuclear arsenal.

How many would benefit? The reconfiguration of the nuclear strategy using faster and more accurate missiles, even if slanted toward use as “conventional” (that is, non-nuclear) weapons sounds like a disaster waiting to happen. It reduces the deterrent factor and suddenly opens the option of nuclear weapon use. Trump has authorized a sharp rise in arms spending that not only might make America “Great Again,” but will surely make the U.S. more dangerous than ever.

This is the same Donald Trump who criticized the March 20, 2003 offensive in Iraq. Now Trump has recently made one of the architects of that invasion, John Bolton, his national security advisor. This is also the same Trump who criticized Barack Obama in August 2013, when it seemed that the then-president was about to launch a military strike against Syria—the very kind of strike that Trump is considering now.

How Will This Play Out in the Stock Market?

As surely as wars bring death, destruction, misery, and loss to civilian populations, they also trigger some strong financial gains for those in a position to benefit.

An academic study has shown that wars can boost the markets in some situations. After analyzing 101 conflicts that erupted between 1971 and 2004, scholars discovered that markets tended to react favorably most of the time, with Wall Street returning gains of as much as 12%. (Source: “The economic effects of violent conflict: Evidence from the asset market reactions,” Journal of Peace Research, November 25, 2010.)

Be careful. The gains are short-lived and limited to an obvious set of stocks in the defense sector. Moreover, the military fortunes on the ground can affect these market results. From the Gulf War to Operation Desert Storm, the U.S. has faced little resistance.

When the various military forces, especially the air force, scored kills in the various theaters of battle, defense companies like Lockheed Martin Corporation (NYSE:LMT) and Raytheon Company (NYSE:RTN) rose in the market. In 1991, Raytheon’s “Patriot” missile, which Israel used to intercept incoming Scud missiles from Iraq, was a major market booster for the company, and for Raytheon’s stock performance.

The fact that wars are good for business (or at least for some businesses, some of the time) is old. The general view is that wars stimulate economic growth. Certainly, they stimulate innovation, and not only in military equipment.

Think of the jet engine, for example; the world entered World War II with the piston engine propeller and came out with Chuck Yeager flying faster than the speed of sound by 1947. Modern medicine, surgical techniques, music, fashion, culture—it all changes with wars.

The Tide That Lifts All Boats Is Over

Yet beware. The markets are about risk, even if Wall Street has generally reacted positively to the outbreak of military conflicts (one reason is that a war ends the uncertainty that usually precedes it).

A protracted war, or one against an enemy that can inflict serious damage, can quickly change all that. The United States does have the advantage of its geographic location. Its enemies since World War II have never had the logistical and technical ability to bring the war to U.S. soil.

Moreover, the wars must be short; the actual fighting on the ground or in the air must end quickly, or at least made to look that way. That’s why George W. Bush was so quick to declare “mission accomplished” in Iraq just after a few weeks. The Iraq war lasted for years after that, however. Indeed, the war in Syria, and certainly ISIS, is a direct extension of that war.

Napoleon’s and Hitler’s Advice for Trump

Even in Iraq, the U.S. did not have to confront a formidable enemy, equipped with all the same instruments of mass destruction as itself.

Striking Syrian government positions now, in such fanfare as Trump has produced, will leave Russia no option but to respond. If it was possibile, Napoleon Bonaparte and Adolf Hitler might call Trump to warn him that attacking Russia is a bad idea; they lost everything in Russia in 1812 and 1944, respectively.

The impact on the financial markets would not be favorable this time. Yes, the defense stocks could rise for an initial phase. However, there will be heavy consequences. If the expensive equipment that the U.S. deploys against its competition fails, the military industrial contractors’ embarrassment will be matched only by their falling stock prices.

Whatever might happen in Syria has not upset the financial markets (yet). The situation in Syria has hardly affected the markets over the course of the past seven years. The prospect of a trade war between the U.S. and China has had more effect on the markets in a few weeks than Syria has had in years.

There has hardly been a more inflated stock market than the present one. It’s begging for a stock market crash and a major correction, leaving only a long-term bearish sentiment in its wake.

This is all the worse, because investors have remained largely blind to the risks in the market, with or without the Syria issue. These investors will be caught with their pants down.

Editor’s Note: Hi, Alessandro Bruno here. If you enjoyed this article, you can get more of my opinions and commentaries in our popular newsletter, Lombardi Letter. Published daily, it’s FREE! Join us when you click here now.

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