Climate Change May Instigate Democratic Revolution And Market Convulsions This Winter: The Geopolitical — Stock Market Connection
With one-third of Pakistan under water the moment is set for Imran Khan to leverage his popularity to reset Pakistan down the road of civilian-led democracy. While that happy outcome would benefit global capitalism long-term it would be so loaded with uncertainty that markets would fall hard in the interim. The connection lies with oil prices. And with oil at risk of breaking below a trading range and investor pessimism so widespread now would also be the optimal time for Pakistan to change, as the one thing preferable to a grinding bear market is a quick collapse. To that end the volatility risk premium points to a market fall over the next few days, while my technical reading of key stocks in the S&P 500 is bearish. Yesterday's cross-asset action brought one positive factor for US stocks. Inflation expectations are stabilizing based on measures of Treasuries and TIPS. But there were also several negative factors across global asset classes. Gold is trading as a risk-off asset. The action in currencies signifies $US strength. The US yield curve is rising and in the current context that is bearish. Expect the S&P 500 to fall over the next few days in a stop and go pattern unless a new geopolitical event emerges and craters the markets.
With Lebanon lurching toward unheard of anarchy, Putin now hearing it from liberals and antiliberals as his army humiliates itself, and riveting elections from Italy to Brazil to the US midterms over the next two months, it may seem like the latest catastrophe to hit Pakistan would be summarily dismissed by investors. But Pakistan is one of the 15 important nations in the world whose actions impact every other country and thus the fortunes of global capitalism.
Pakistan is the fulcrum of WMD proliferation among illiberal nations and even worse, is hostile to a bordering nuclear power. It helped nuclearize North Korea and its borders one nuke power that has veered rightwards via legitimate elections (India) and another wannabe nuke power whose rightward lurch is fraudulent and against the wishes of its people (Iran). Both are religious antagonists whose interests in Afghanistan contradict Pakistan, and so wouldn’t take any unrest in Pakistan as neutral observers.
Dawn notes “Prime Minister Shehbaz Sharif on Wednesday presented a dismal picture of the country’s economy and regretted that friendly countries had started looking at Pakistan as a country that was always asking for money.”
Geo.tv notes “Despite the resumption of the International Monetary Fund (IMF) programme after a hiatus of seven months, Pakistan is still reeling under a severe dollar liquidity crunch as the cataclysmic floods have aggravated the macroeconomic fundamentals…The worst performance of the agriculture sector will put pressure on increased demand for commodities imports and if Pakistan fails to generate desired levels of dollar inflows it might create food shortages in the current fiscal year. It is estimated that Pakistan will have to import additional cotton worth $2 billion during the ongoing fiscal year because it witnessed severe damages in the wake of flash floods affecting those areas of Sindh where the cotton production was destroyed completely. Now the government will have to dewater the areas where sowing of wheat is done, otherwise, there is a potential threat of less production in the range of three to five million tons.”
Humane issues tangle with complex geopolitics and impact global investors via the $US, interest rates, global trade flows, health epidemics, reversals of the security environment and reversals of labor migration and remittance patterns. Pakistan’s historic ecological catastrophe impacts the security environment because throughout history there has never been a nuclear power that suffered a civil war, The potential of Imran Khan to incite a popular revolt that foments a Myanmar-style civil war would throw oil markets back to old highs because the fundamental security blanket for the Gulf States would be punctured, as their Sunni ally Pakistan could no longer be counted onto counter Iran or even their historic enemy Israel.
Lower oil prices are critical to the stock market because investors are leveraged to the speed of disinflation, due to the high valuations currently in the markets. Only rapid disinflation can bring interest rates down (via a less hawkish Fed) and make high valuations reasonable (since valuations are based on future free cash flows divided by current and forward interest rates). Gas prices are critical to the Consumer Price Index since so much of the public spends a material amount on gas. Any rise in oil prices back to old highs would keep inflation running hot and force the Fed to keep rates higher for longer, and that would crater equity markets.
I don’t expect Pakistan to implode but should the government make a martyr of Khan an implosion is a 50/50 possibility. Knowing that, Khan may be bold enough to force a showdown and from there uncertainty would reign supreme. This is one profound brick in the wall of worry that investors are in no mood to climb, as the S&P 500 heads to a retest of the June lows.
My current positions include a large cash position, Goldman Sachs (GS), 3M (MMM), Pfizer (PFE), Starbucks (SBUX), and SPXU, all of which still nets out to a meaningful short position in equities.