What is Happening in Afghanistan?
The Taliban, a fundamentalist Islamic force that emerged in the early 1990s, entered the Afghan capital Kabul on August 15. They seized power two weeks before the U.S was set to complete its troop withdrawal after a two-decade war. The United States invaded Afghanistan in after the terrorist attack on September 11 in 2001, but they never left the region. As the Taliban entered Kabul, President Ashraf Ghani fled the country to be hanged. However, he resurfaced in United Arab Emirates, which the Emirati government confirmed. The peace deal between Donald Trump and the Taliban in Doha, Qatar, in February 2020, committed to the withdrawal of US and allied (including British) troops by May 2021. However, the US-Taliban deal did not stop the Taliban attacks. They switched their focus instead to Afghan security forces and civilians and targeted assassinations. In April 2021, President Joe Biden continued the plan and announced that the U.S military force would withdraw from Afghanistan by September 2021.
The Taliban took over the presidential palace and declared that the war is over. Government offices, shops and schools are still shuttered in areas recently captured by the Taliban, with many residents lying low or fleeing to Kabul. The Afghan situation has escalated, and people are desperately leaving the country due to the uncertainties of the Taliban leadership. Fearing that the Taliban could re-impose the kind of brutal rule that all but eliminated women’s rights, the Afghans rushed to leave the country. Many fear the Taliban will roll back two decades of gains by women and ethnic minorities while restricting the work of journalists and NGO workers. The unsettling situation in Afghanistan is definitely going to affect the local market as well as the international market. Millions of people are attempting to leave the country, implying that almost every aspect of the economy is failing and will not settle down to do their job. This will have a detrimental impact on the economy. As a result, it is natural that the financial markets are down due to the halt of economic activities.
Pie Chart of U.S. Costs to Date for the War in Afghanistan (Sourced from Watson Institute)
Table of United States costs to date for the war in Afghanistan (Sourced from Watson Institute)
Since invading Afghanistan in 2001, the United States has spent $2.26 trillion USD on the war, including operations in Pakistan. Note that this total does not include funds that the United States government is obligated to spend on lifetime care for American veterans of this war, nor does it include future interest payments on money borrowed to fund the war.
Why is Pakistan Strategically Important?
Pakistan bond spreads rising faster than elsewhere (Sourced from Reuters)
Pakistan’s IMF program is in its thirteenth in 30 years, and it is required to assist the government in addressing the public debt of about 90% of GDP. The $6 billion USD IMF program began in 2019. Any Taliban attacks within Pakistan might exacerbate security concerns, making it more difficult for Islamabad to meet the IMF targets. Some investors believe Pakistan’s strategic importance to the west will grow. The IMF is monitoring the fast-moving situation in Afghanistan closely, and the spokesperson said that it is too early to speculate the outcome and possible economic spillovers to Pakistan.
The Taliban takeover will become strategically important to the US as this could help keep IMF’s money flowing.
Possible effects
Countries pull their people out of Afghanistan
Some countries, such as Germany, are starting to pull their people out of the country. Chancellor Angela Merkel warned her party colleagues that Germany has to evacuate up to 10,000 individuals from Afghanistan for whom it is responsible, warning that the fallout from the conflict will last for a long time. Foreign and local investors will be uninterested in the Afghan financial markets at the time, which will have both short and medium-term consequences for the economy. Many investors will pull out of Afghanistan if the Taliban remains in power due to the uncertainty towards the working conditions under the new Islamic regime. According to Ilya Spivak, the head of greater Asia with DailyFX stated that Afghanistan’s connections to broader markets is relatively small. If the area becomes a staging ground for terrorism once more, it will have a significant impact. Investors are most likely unwilling to trade unless something happens.
When the Taliban takeover happened on August 15, MarketWatch experts stated that the impact on the New York Stock Exchange remains unclear, and investors will have to wait to see the longer-term impact. They expected a rise in volatility or bond-buying trend.
At that time, New York Stock futures showed a slight decline, but it is not enough to jeopardize the recent bull market. According to MarketWatch, historically, military conflicts have not always had an impact on markets, and their impact on investor sentiment is not clear. It is explained that the economic and market environment has become a bigger material. The Japanese, Hong Kong, and Australian stock market markets fell. However, most market experts stated that the Asian stock market decline is most probably due to the Chinese economic data released that day, not because of the Afghan crisis.
India markets opened weak amid the crisis. According to analysts, the geopolitical tension will frighten the bull party at the bourses and affect the flow of funds into the region from foreign portfolio investors. To sum it up, almost all Asia-pacific stock markets are down except for China and the Philippines. The US stock market may be affected similarly.
For the United States, strategists and investors do not see that the Afghanistan crisis is an immediate threat to asset prices, but it might change soon. The increased geopolitical risks and long-term concerns about terrorism would affect President Joe Biden’s ability to push through the infrastructure and budget bills in the House of Representatives. According to Fiona Cincotta, senior financial markets analyst at City Index, mentioned that this could cause some speed bumps and delays in the progress of the infrastructure bill and stimulus, leading to the slowing down of economic recovery.
Ever since Biden’s presidential win last year, the investors have been anticipating the U.S.’s biggest infrastructure plan since 1956. The withdrawal of U.S troops might endanger these two bills. Both Republicans and Democrats will distance themselves from Biden if he mishandles the crisis. Furthermore, some on Wall Street believe that new demand for increased military spending to combat Taliban-inspired terrorism threats could mean less funding on social programs and non-traditional infrastructure proposals such as the high-speed internet expansion. After setting new highs before the Taliban takeover took place, Wall Street’s major indices were all down, with the tech sector bearing the brunt of the losses. However, investor demand for safe-haven assets such as gold, the dollar, and US Treasuries increased simultaneously. The dollar ticked up against a basket of six major currencies, rising 0.1 percent to 92.623 after dropping to a one-week low. While there are many causes that could be weighing on traders, keep in mind that short-term volatility is normal when the market continues to hit new highs.
Financial Markets will be affected
The financial market indices are falling, and investors are waiting to see how the world leaders would respond to the situation. This would mean that major global financial market indices are trading in the red zone. So far, the impacts of the Afghanistan takeover can be seen in other regions of the world. As a result, financial indices are falling, and investors are waiting to see how the world leaders will respond to the unsettling situation.
FTSE 100 Chart (Sourced from FXEMPIRE)
The FTSE100 dropped by 0.90%, while the STOXX Europe lost 0.50% of its value on August 17. The Dow Jones Industrial Average (DIJA) dropped 0.065%, and the S&P 500 dropped 0.23% on the same day. Besides, the NASDAQ composite, another major index is trading in the red zone, and it dropped 0.74% on 17 August. Therefore, the performance gives a clear picture of how the financial markets are currently and how the investors are feeling.
Geopolitical Uncertainty
Regional and global crisis headlines can be frightening, but they may also catch investors off guard since they are often beyond the typical business and market news flow. There have been numerous geopolitical crises that are intertwined with business cycles such as the September 11 attacks, on-going concerns over the nuclear capabilities of North Korea and Iran, the rising global influence on China, its crackdowns in Hong Kong, refugees in the Mediterranean, and many more. Humanitarian ramifications do exist, but this does not imply that long-term portfolios are affected. This is because while the markets react to different short-term news on a daily and weekly basis, the factors that drive the portfolios over years or decades can be quite different. Markets depend on global stability. Making drastic portfolio changes in response to regional crises is a mistake, as shown in history. These periods of uncertainty are dealt with by implementing properly diversified portfolios, especially those structured around long-term financial plans. After all, markets can fluctuate anytime whether it is due to geopolitics, economic shocks, or as what we have seen over the last 18 months during the pandemic.
The tense situation in Afghanistan is still arouses fear among investors. It is clear that errors and miscalculations have been made. With the U.S.’s involvement in the conflict for two decades, it is even more frustrating. While pundits will continue to debate about these issues, investors should avoid passing judgments with their portfolios.
Lastly, investors must analyze these situations in a broader economic and market context. Despite the strong bull market, there are still many investment opportunities as prices recover and earnings grow. The charts below will provide the outlook on how geopolitics affects investors.
1) Markets have grown in the long run despite periods of uncertainty.
Stocks since the Great Depression (Sourced from Financial Synergies)
Over the last century, the global stock market has produced high returns despite recessions, political turmoil, and global wars. Moreover, despite short-term crises, investors who stick to their strategies can benefit from the developing economies.
2) Global markets can also perform well over time despite ups and downs.
Global Stock Market Cycles (Sourced from Financial Synergies)
Investors have done well in global stock markets during the last two decades, despite each region behaving differently. Emerging markets, in particular, are notorious for their high volatility. Nonetheless, they have been an essential component of diversified portfolios.
3) There are many global options available nowadays.
Global Earnings and Valuations (Sourced from Financial Synergies)
Many regions are still catching up with the strong U.S. recovery of the past year and a half. In both emerging and developed economies, valuations remain attractive, and geopolitical conflicts may create opportunities for long-term investors.
What the US is concerned about
Historically, military or war conflicts do not necessarily have any effect on stocks. The impact on the investors’ psyches has not always been evident. The backdrop, and the financial and market environments are the bigger drivers and are often more influential. According to Invesco, the Taliban takeover is a ‘disaster’ but it will not affect the market any time soon. Invesco is concerned about two major threats, but the Taliban takeover is not one of them. According to Kristina Hooper, the Chief Global Market Strategist at Invesco, stated that investors should focus on the long-term investing goals and keep a close eye on the Federal Reserve’s (Fed) tapering plans instead. The Fed’s fast movements in tightening the policy could suppress the recovery.
The Federal Reserve Policy Mistake
The Federal Reserve is the central bank of the United States that uses several different levers to provide the country with a safe, flexible, and stable monetary and financial system. The central bank mentioned last year it would continue to purchase $120 billion USD in Treasuries and mortgage-backed securities monthly until officials deemed they had “achieved substantial further progress” toward their goals of low unemployment and inflation reaching their 2% goal.
The Boston Fed president Eric Rosengren stirred up the debate over when he said that the tapering would begin and continued job gains could prompt the central bank to reduce its monthly asset purchases. Tapering is the quantitative easing (QE) strategy of the Fed to reduce the pace of large-scale asset purchases. However, tapering does not relate to the complete reduction of the Fed’s balance sheet, only the reduction of expansion pace. Theory-wise, tapering increases liquidity to maintain financial stability and promote economic growth, enabling businesses to invest as the financial sector is stabilized. There is a significant correlation between the Fed and the stock market’s actions. Naturally, asset prices will respond to revisions in expectations about future policy and changing news about economic conditions. Bonds indeed were sold sharply, but tapering will lead to higher interest rates and higher volatility in the stock market.
The investors are worried that the 2013 taper tantrum will repeat itself. The tantrum has triggered anxiety due to the rise in bond yields and the fear of the crumbling of the market due to the cessation QE. According to surveys, 28% of investors fear a crash in global bond markets, whereas 27% fear the mistake by the Fed/ECB. It showed that investors are more comfortable holding cash than investing in traditional assets. Furthermore, it is pointed out that investors see the Fed as a negative catalyst and are taking out more protection and cash positions as a response to the bearish views on markets. Bond yields have plummeted for weeks, and investors were concerned that the central banks’ hawkish tones might pose a risk to the global economy. As a result, long-term investors will get low returns and have a higher possibility of losing money if yields rise. As for the short term, the reflationary environment of rising inflation and nominal rates is anticipated to be negative bonds, especially those that are interest-rate sensitive.
The regulations are perceived as adding adherence issues for the e-commerce marketplaces. As a result, shares of Hong Kong-listed tech stocks decreased, with Tencent and Alibaba dropping more than 4% each. Alibaba’s US-listed shares also fell 3% on The New York Stock Exchange.
COVID-19 Delta Variant
Covid-19 cases are soaring once again in the US due to the spread of the highly infectious Delta variant. Daily infections have been averaging around 130,000 since the second week of August, a four-fold increase from mid-July. Kristina Hooper also mentioned that the Delta variant of COVID-19 and data from Israel showing the Pfizer vaccine has been losing its efficacy over time is a major concern. This will hinder the economic recovery or slowing it down, which could have a major fallout in the market. Hence, the rising cases will affect the economic activities and spark new restrictions, leading to a significant shift away from reopening stocks.
The US stocks are opening low since August 18, a day after the S&P 500 faced its most significant drop in four weeks and broke a five-day winning streak. The index went down 0.2% in the first few minutes of trading. At the same time, health care companies and banks bore bigger losses in the early going.
Conclusion
The Afghanistan situation is a ‘disaster’ or ‘human tragedy’, but it is not an immediate threat and currently has no effect on the US stock market. People should not be surprised by the market’s reaction. However, the situation should not be overlooked as it might change soon. The possible effects of the Afghanistan crisis written in this article are solely based on our opinions and findings so take it with a grain of salt. Investors may feel unease at the ongoing events, but it is still important to keep a level head. Although there may be uncertainties, history has shown that remaining calm is often rewarded and improves the odds of achieving goals.
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