N Korea threats create defensive asset rally in global markets

Today Donald Trump threatened that “military solutions” were in place, “should North Korea act unwisely”, referring to North Korea’s recent nuclear ambitions.

The growing tensions that have played out on the world stage this week are a timely warning for investors to remain diversified, warns Tom Elliott, international investment strategist at deVere Group.

The week’s aggressive rhetoric from the US and North Korea have contributed to a rally in defensive assets in global financial markets.

“This reminds us to remain diversified in our investing habits. We should also be aware of the risk of responding to geopolitical shocks by selling assets: too often we find ourselves selling at the moment of highest fear, only to be out of the market as a rebound in stock market prices takes place as tensions wind down,” says Elliott.

This week’s beneficiaries were oil, the Swiss franc, Japanese yen, and quality government bonds. Global stock markets fell.

“The VIX index of implied future volatility on the Standard & Poor’s 500 index (the so-called ‘fear index), jumped to a three-month high of over 15, and we saw growth-orientated stocks underperform their value counterparts across developed stock markets,” Elliott explains.

“There are few better illustrations as to why a long-term investor, keen to maximise returns while keeping portfolio volatility low, should hold core government bonds in their portfolio as part of a balanced portfolio.

“Exposure to the Swiss franc and Japanese yen perhaps best comes through ownership of global stock and bond market funds, or through currency liquidity funds,” he says.

A global stock market fund will have its fair share of value and growth companies, unlike the FTSE 100 index, for example, which is predominately value-orientated with its bias towards energy, mining and financial, or the Japanese Tokyo Stock Price Index (TOPIX) which is growth-orientated with a predominance of consumer goods companies, according to Elliott.

“In all likelihood, the North Korea problem will persist for years to come, with the US, and increasingly China, attempting to contain and restrain Kim Jong-un. He knows that any use of missiles – nuclear-tipped or not- against the US or one of its Asian allies, risks a retaliation that will lead to the end of his family’s rule of the country,” says Elliott.

This is despite North Korea’s state news agency releasing a statement saying the US “would suffer a shameful defeat and final doom if it persists in extreme military adventure, sanctions and pressure.”

Elliott predicts that it is highly likely that tensions will ease off and the recent flight into defensive stocks will reverse.

“But do keep those defensive assets. It is not just North Korea that has the potential to surprise investors. Whether it is a credit crunch in China, policy error from the Fed, or fear of an overvalued US stock market, there are many reasons to maintain a balanced multi-asset portfolio that has exposure to defensive asset classes and currencies,” Elliott concludes.

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