The Impact of Political Events on Financial Market Performance Assignment

Assignment Task

What are some of the factors that a political event such as war can affect financial market performance?

Abstract

This article is based on data from several academic research on politics and financial markets that have taken place in the US and Europe. National elections are the primary political event covered in this research, but it also touches on the conflict between Russia and Ukraine. Due to this, the primary objective of this research is to examine how investors perceive the idea that the political victory of various parties will increase stock values. The study also requires in-depth research and analysis that covers behavioral finance in relation to military combat in the harsh conditions brought on by war. Overall, empirical investigations from the preceding literature have confirmed that political events impact financial markets to varied degrees and during moments of instability. Consequently, the financial markets of nearby nations may have long-term consequences as a result of the current military scenario between Russia and Ukraine. On the other hand, compared to the effects of war, national elections only generate a few brief oscillations when assets are secured.

Introduction

Political risk has always been one of the key elements affecting the performance of the financial markets. The episodes can result from a number of different things, including the passing of new legislation, a coup, or a change in a country's government. In order to swiftly modify their portfolio and decision-making, numerous parties, including institutional investors and individuals, prefer to pay attention to political news that affects their interests (Haggard S and Maxfield S 1996). The globe is currently experiencing unprecedented tensions, and economies of different nations are becoming more and more intertwined, making politics more and more crucial than ever. Based on the aforementioned arguments, it is possible to forecast that a political shock will have an impact on the financial markets of any particular nation, as well as the rest of the globe.

In order to test and assess the performance of financial markets, the primary objective of this article is to evaluate the outcomes of using political data, such as ongoing price fluctuations in the stock market, profitability, volatility, and trading volume. Additionally, the research findings that demonstrate the connection between political action and financial market activity as well as the chain of events that occurred in 2022 are amply illustrated in this article. The results indicate that the economy will experience long-term effects that might have a big influence on stock values.

Main body

Elections in the nation

According to the academic literature, there has been a lot of research on this topic as a result of how investors have acted in relation to national elections. Geographical factors, economic situations, and a range of political policies have a huge effect because how each election is different and distinct. To investigate the causes of changes in investment during non-election periods, numerous researchers have chosen the timing of elections (Ferguson T 1995).

The French election, between two individuals, occupies the center of this issue. Right-wing populist Marine Le Pen is on one side and centrist politician Emmanuel Macron is on the other. This survey is very contentious since the distance between the two parties is expected to be substantially narrower than in 2017 (Appendix 1). Since foreign immigration led France to become overrun with refugees, which damaged the country's economy, the situation brought on by the Covid epidemic had major repercussions (Oecd 2022). But this has also led to a rise in the number of people who are supporting far-right politicians, many of whom have ideas that are similar to Brexit in that they reject EU unity. While in office, Macron attempted, in contrast to Brexit, to bind France more closely to the European Union. Many French people, however, are dissatisfied with their president's decision to give the EU top priority despite the dire economic situation in their own country. Le Pen was the one who demanded help from French employees who were having problems as well as a reduction in immigration status (ELMIGER SM 2020). In addition, the French people have been concerned about their nation's absence from the Ukraine war since Le Pen came to office due to France's long history of being a close friend of Moscow (Cohen R 2022).

Following a victorious populist election, Martin and Sebastian (2021) assess the financial market's prospects. Theoretically, populism encourages xenophobia, local control, and defiance of external constraints. Due to the extremely nationalist characteristics linked to potent anti-free trade movements, corporations would have a grim future under right-wing populism. Equities will decline as bond rates increase, along with the macroeconomic measures made feasible by slower inflation and higher future costs for businesses (Devinney & Hartwell 2021). Contrarily, Funken et al. (2016) believe that investors may favor policies that lower taxes and assist large enterprises. Krueger (1974) continues by stating that certain firms may be able to profit from protectionist tactics. Despite having positive effects, at least in the short term, no study has been able to conclusively demonstrate whether such actions will expand the economy as a whole over the long term. As a result, estimates for populism's prospects of success may be either favorable or negative depending on how investors feel. Le Pen's chances of winning this election were poorly received by the financial markets.

Given that French shares outperformed other European indices when Macron was president, investors preferred his reelection over those of his opponents (Appendix 2). After the election, EDF and other energy stocks will benefit from Macron's ambition for energy sovereignty. Le Pen wants to demolish wind farms, while Macron is committed to significant advancement in renewable energy to replace fossil fuels. Engie, Neoen, and EDF stock prices will be affected. Since 2017, LVMH, Kering, and Hermès have provided almost 60% of the profits for luxury products to the CAC 40. These shares have almost doubled thanks to Macron's business-friendly policies and tax reductions (Appendix 3). As surveys suggested that Macron's advantage was dwindling, BNP Paribas and Société Générale were heavily impacted in the banking sector, falling by 4-6%. Le Pen's victory as a result might lead to a review of corporate tax rates, which would immediately affect luxury stock prices (Jones D 2020). Also demonstrating the political unpredictability of investors, the blue-chip CAC 40 index dropped 1.3% (Dailysabah 2020). As a result, the difference in bond rates between French and German would rise to 80 basis points, affecting French financial institutions and asset managers (IMF 2019).

Stock price volatility appears to be declining, especially in light of previous incidents when traders correctly anticipated that the Democratic nominee would win the presidential election, based on Leblang and Mukherjee's (2004) use of the GARCH model to look at stock prices in the US and UK during national elections from 1930 to 2000. Their propensity to restrict trade volumes in order to stabilize earnings and cut transaction costs results in volatility since their political policies toward the welfare of inhabitants might cause excessive inflation. reduced stock prices Based on this, traders are concerned about the disappearance of future dividends and their actual stock returns. Active investors, on the other hand, begin trading stocks during a bull market, which may cause a significant amount of stock price volatility, anytime there is a chance that the Republic would succeed. Investors should see an improvement in stock returns as a result of the Republic's adoption of reasonable economic policies6, including tax reduction and inflation control. Leblang and Mukherjee's (2005) figures reveal how many transactions there were in each situation (Appendix 4). However, there is no simple solution to this issue because volatility will automatically level out on election day as investors adjust their risk management in response to the results.

Generally, the specific beliefs of any political party in power will influence its macroeconomic policies, creating a range of potential outcomes for the economy. National elections can also have a short-term impact on stock market performance.

The conflict between Russia & Ukraine

The impact of conflict on economic activity has been a major subject of previous research. While can be seen, certain governments may take advantage of people's misunderstanding of the economic costs of war by using appeasement rhetoric as they mobilize for war in order to mitigate the economic impacts of the impending battle (FRIEDEN J 2020). Findings are therefore needed to establish the genuine impact of war, such as the conflict between France and Ukraine, on stock market performance.

NATO has been warning Moscow since February 2022 that if it invades Ukraine, there will be severe economic repercussions, further raising tensions between the West and Russia. important. Despite the caution, on February 21, 2022, Russian President Vladimir Putin decided to split the NGO regions in Ukraine controlled by Donetsk and Luhansk (administrative districts) and deploy troops there. The US, UK, and EU levied a raft of sanctions on Russian officials, banks, and other assets on February 22 as a result of Putin's enlistment in the military. Germany has indefinitely postponed the Nord Stream 2 gas pipeline project . Russia formally began a "special military operation" to free Donbas on February 24 by shelling Ukrainian towns. To impose more restrictions on Russia's central bank and exclude significant institutions from the SWIFT payment system, new penalties were unveiled on February 26 (European Council n.d).

Due to Putin's operation, a significant Russian stock index falls by 50%. Due to the country's invasion of the neighboring Ukraine, the MOEX Russia Index suffered a significant decline on Thursday. The Dow sank over 800 points before reclaiming lost territory, another sign that the growing unrest in Eastern Europe is having an effect on stock markets all across the world (MCDERMID RG 2022). As soon as the news of the conflict was announced, international investors started to leave the volatile market in search of safe havens. Due to the excessive volatility, local stock trading was shut down by the government for a third day, although stock purchases helped to support the market.

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