How to examine Geopolitical Risk with an analysis framework. - Isaac Fang

How to examine Geopolitical Risk with an analysis framework.

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How to examine Geopolitical Risk with an analysis framework.

Geopolitical risk from Ukraine conflict gets real
Geopolitical risks do have effects on investment strategies and results. We love heuristics or simple mental frameworks that help us think and assess situations more efficiently. The conflict in Ukraine has impacted the investment markets with geopolitical risk. And it recently got real for investors in the conflict zone as well as for those outside. We cannot fully anticipate developments, but we can examine geopolitical risks for effects with a simple analysis framework to aid our impact assessment and subsequently adjust investment portfolios.

What we know so far - Geopolitical Risk by Ukraine-Russia conflict

To most people, Russia invaded Ukraine on 24th February 2022. The Russians are calling it Special Military Operations. Not every Russian are in sync with President Putin, and he has moved to curtail media freedom and combat what he deems as “fake news”. Oil prices have shot up along with gold. Sanctions have been applied, intending to choke the Russian economy. Let’s face it, it will be a tall order to segregate Russians on the side of war from those who are not.

Just as Singapore practices vaccination differentiated measures, I think there will be citizenship/residency differentiated measures applied as a result of sanctions brought about by the West. Understandably, the effects can be seen as follows.

Listed securities affected by geopolitical risk.

How effects come about - Listed Securities affected equal Collective Investments affected too.

In the quest to choke Russian capital flows, Russian and/or Russian related securities trading have been restricted if not suspended. If you have exposures to these investment instruments, your monies are quite likely “stuck”. Portfolio managers whose funds have exposures face the same predicament and their Net Asset Value (NAV) calculations affected.

Examine Geopolitical Risks - using PESTLE Analysis Framework

PESTLE Analysis is a strategic framework used to evaluate the external environment of a business by breaking down the opportunities and risks into Political, Economic, Social, Technological, Legal, and Environmental factors. This conveniently breaks down the geopolitical risk into segments for further examination.

P – Political

It is highly likely that Russia will be politically unstable as there have been protests against the war, on the streets in Russia. The sanctions applied have the effect of making Putin the biggest “sabo” (Sabotage) king such that even the peace loving Russian investor has difficulty redeeming investments. Oligarchs are not spared. Trade restrictions arising from sanctions will bite.

E – Economic

The Russian central bank has raised interest rates to as high as 20% to arrest the drop in the currency. Life for the Russian citizens will get hard as imports and exports get affected, so will goods and services of many businesses be affected. Outsiders who have business dealings with Russian businesses get affected too. Inflation pressures will remain elevated.

S – Social

Covid19 pandemic is not over and with economic decline underway, Russian society will get increasingly polarized. In the short run, rational investors are converting capital assets into tangibles like luxury watches and other value preservation items.

T – Technological

The crypto space has been most interesting during this period of the conflict. Ukrainian refugees have been able to bring their wealth in the form of crypto assets across borders, this of course is less conspicuous than carrying physical gold bars. However, regulatory oversight in the crypto space is set to increase as Russians will plan to do the same. That said, to my knowledge at this point in writing, Binance and Kraken do not wish to block Russian IP addresses.

L – Legal

What had been ordinarily appear to be legitimate business dealings prior to the conflict, can change as a result of sanctions.

Fintech ComplyAdvantage’s computers and human staff scoured 25,000 information sources, aiming to alert clients within 15 minutes of a new target appearing on the various government sanction lists drawn up since Vladimir Putin’s invasion of Ukraine. Algorithms searched for the names of Russian lawmakers, originally written in Cyrillic, and now in languages including Korean, Chinese and Japanese. Armies of lawyers, compliance specialists and fintechs are being deployed to help banks avoid the billion-dollar scandals that previous sanctions have wrought. (Source: BusinessTimes [London])

E – Environment

When the Russian military attacked the largest nuclear plant in Ukraine, the potential of a disaster greater than Chernobyl, was high. So whilst there’s been assurance that no leaks or reactor meltdowns happened, Ukrainians have lost some electrical power after the Russians captured the plant. There are other nuclear reactors in Ukraine. The potential of an environmental disaster is still present.

How to think with PESTLE on Geopolitical risks

PESTLE has great use for examining geopolitical risk. There are other geopolitical risks in other parts of the world, China – Taiwan being another. South China seas, Kurile Islands, various separatist movements with dissolving borders, these carry geopolitical risks too.

By breaking down the risk assessment into 6 parts to understand the implications together with the existing financial architecture we have today, we get a better handle on the geopolitical risks that will shape investment portfolio decisions. Increasingly, businesses become pawns for national agendas. SEA stock price fell further on India’s stance towards its game is one example.

Remember that investment portfolio management is a loop. Future events can only be anticipated but not cast in stone. There is no luck, only probabilities, and those probabilities are not static. Being adaptive to changing market conditions is just being risk prudent.

As far as possible we wish for our anticipations to be correct, but misses are inevitable. Make your own play. If you would like guidance, feel free to approach me.

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