The Fog of War

The Fog of War

Sometimes, during wars and following natural disasters, I write about how to profit from wars and natural disasters. Then people will write in, complaining, saying it’s a little gross. Have some sympathy, man.

Hey, look—I’m a trader. I would profit from your dead grandmother if I had the chance. I know at least one guy at Lehman who was pounding S&P futures after the first plane hit on 9/11, without remorse.

So, let’s get all the squeamishness about war trading out of the way. We’re speculators. We’re here to predict tomorrow’s prices today.

Now, one way to do that is to go back and look at what markets did in every war in history and try to draw some conclusions about what they will do today. Unfortunately, there are no conclusions to be drawn. Every war is different.

There is a playbook for war: Gold goes up, oil goes up, commodities go up, and stocks don’t always go down. But that’s just in the early stages. Early on in a war, there are fears of contagion, that the war will spread beyond borders and turn into something worse. And there are certainly fears of that today. The Ukraine war has been pretty much confined to Ukraine, which impacted wheat prices (though markets eventually adjusted). If Russia started lobbing missiles into Poland, I assure you that things would get more interesting.

So, what do I think will happen? Well, gold has made some interesting weekly candles. Senator Lindsey Graham is talking about bombing refineries in Iran. We learned recently that we have had our last rate hike. I think the war greatly increases the probability that we’ll have a cut very soon, perhaps in the next few months. But I am just talking my book on all this stuff.

The Ukraine Example

It is a bad idea to use Ukraine as a model.

With the Ukraine war:

  • Gold peaked the night of the invasion.
  • Wheat peaked shortly thereafter, along with other agricultural commodities.
  • In fact, pretty much all commodities entered a bear market after the start of the war.

The thing about Wall Street is that people usually do what worked the last time without really thinking about what will work this time. Remember, every war is different. What’s unique about this one is that, well, it’s right in the middle of where all the oil comes from.

My job is to ask the dumb questions. If there were any danger whatsoever that things would spiral out of control in the Middle East, wouldn’t you want to own some oil? Just asking dumb questions here. If there were any possibility, however remote, that this could turn into a regional conflict, or even a World War, wouldn’t you want to own some gold? Just asking the dumb questions here.

Markets are hard, but they’re not that hard. Sometimes the dumb trades work. One thing I know about traders is that they overthink things way too much and tie themselves in knots.

Bonds are an interesting case. Bonds should rise during wartime because of a flight to safety, but everyone knows that rates have been going up on account of our massive deficits. So, what if we were to get involved in the war and our defense spending went up accordingly? What would happen to bonds?

Well, people like the certainty of bonds, especially when they pay big fat yields. This is a basic decision theory problem—would you rather get a certain 5% or an uncertain 8% in the middle of a war? I think the question answers itself. I am not too worried that demand won’t meet supply in the bond market. Give it some time—people won’t get enough of them.

The Speculator as Hero

I refer you to the excellent op-ed written by Victor Niederhoffer years ago. Speculators play an important role in wartime because prices are signals. If speculators were to push the price of oil up in advance of a war, it would incentivize production and encourage people to economize.

Yes, the speculators make money in the process. But they also make mistakes sometimes and lose money. That is the risk of being a speculator. But speculators will ensure that we have gold and wheat and bonds and stocks at reasonable prices during times of conflict—they always have.

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It is when markets are not permitted to function that we have acute shortages of goods we need. There are countless examples of this. The example of the Strategic Petroleum Reserve comes to mind. The Democrats had a good outcome in the midterm election as a result, but now we are going into what could be a massive war with only 17 days’ supply in reserve.

All I have to say about that is the markets are undefeated against politicians.

Jared Dillian, MFA


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