Is War Good for the Stock Market?

The question of whether war benefits the stock market is complex, without a simple affirmative or negative answer. Numerous variables influence market performance during conflicts, including the type and scale of the conflict, economic conditions, and the broader geopolitical environment. Understanding these factors provides a nuanced perspective, as different conflicts elicit varied market responses.

Historical Market Performance During Conflicts

Historically, major stock markets have exhibited diverse reactions to significant conflicts, with initial responses often characterized by uncertainty and negative sentiment. The onset of World War I in 1914 saw the Dow Jones Industrial Average (DJIA) fall by approximately 30% in the immediate aftermath, prompting a temporary closure of the New York Stock Exchange. However, upon reopening, the DJIA experienced a notable recovery, surging over 88% in 1915, marking its highest annual return on record. Throughout the entire duration of World War I, from 1914 to 1918, the Dow was up a total of over 43%, or roughly 8.7% annually.

World War II followed a similar pattern of initial decline followed by recovery and growth. When the U.S. entered the war following the Pearl Harbor attack in December 1941, stocks dipped, but these losses were largely erased within a month. From the start of the war in 1939 until its conclusion in late 1945, the Dow was up a total of 50%, averaging more than 7% per year. Even during the Korean War (1950-1953), the Dow saw an annualized gain of 16%, accumulating almost 60% in total.

The Vietnam War also showed a resilient market performance, with the Dow Jones closing 1965 with a 10% gain after American troops arrived, and the market realizing an overall performance of 43% by the end of the conflict in 1973. More recent conflicts, such as the Gulf War in 1990, saw an initial market drop of about 15% in the six months following the outbreak. While immediate reactions to geopolitical events tend to be negative, the long-term performance of stock markets is more significantly influenced by underlying economic fundamentals.

Economic Influences on Stock Markets

Conflicts can significantly reshape economic landscapes, influencing stock markets through several channels. Government spending on defense and related industries typically increases during wartime, which can stimulate economic activity in specific sectors. This increased spending can lead to higher gross domestic product (GDP) growth rates, particularly in the short term, as resources are directed towards military production and associated services. However, such spending often necessitates increased public debt and higher taxation, which can displace private sector investment and consumption.

Inflation is another common economic consequence of war, often driven by disruptions to global supply chains. Conflicts can impede the flow of goods and raw materials, leading to shortages and price spikes, especially for commodities like oil, natural gas, and certain metals. Central banks, such as the Federal Reserve, may initially maintain low interest rates to help finance government debt during wartime, as seen during World War II. However, persistent inflation can later compel these institutions to raise interest rates to stabilize prices, impacting borrowing costs across the economy.

While increased government spending can temporarily lower unemployment rates and boost productivity by utilizing existing capital assets more intensively, the destruction of physical and human capital in conflict zones can severely depress long-term economic development. For countries directly involved, war often leads to reduced investment, a decline in consumption, and a shift of economic activity away from civilian sectors. Studies indicate that global GDP would have been higher on average without violent conflict, underscoring the destructive economic consequences of war over extended periods.

Sectoral Impacts and Investment Shifts

The impact of war on the stock market is not uniform across all industries; some sectors may experience increased demand and investment, while others face significant challenges. Industries related to defense and security typically see a surge in orders and revenue during conflicts. This includes aerospace and defense manufacturers, cybersecurity firms, and companies providing logistical support or advanced technology for military operations. Their stock performance can benefit from heightened government spending and procurement needs.

Energy companies, particularly those involved in oil and gas production, often experience increased profitability due to commodity price spikes caused by supply disruptions. As global supply chains are affected and geopolitical risks rise, the demand for stable energy sources can drive up prices, benefiting companies in this sector. Similarly, certain raw materials and agricultural commodities may see price increases, which can positively impact relevant companies.

Conversely, sectors heavily reliant on consumer spending or global stability often face headwinds. Consumer discretionary industries, which include retail, automotive, and hospitality, may suffer as inflation erodes purchasing power and economic uncertainty discourages non-essential spending. The travel and tourism sectors are particularly vulnerable, experiencing reduced demand due to safety concerns, travel restrictions, and higher operational costs. Manufacturing industries not directly tied to defense may also struggle with disrupted supply chains, increased raw material costs, and reduced consumer demand.

Investor Psychology and Market Volatility

Investor psychology plays a substantial role in market movements during times of war, often leading to heightened volatility. The inherent uncertainty surrounding armed conflicts can trigger fear and emotional reactions among investors. This fear can prompt rapid sell-offs as market participants seek to liquidate holdings and move towards perceived safe-haven assets, such as gold, government bonds, or stable currencies.

Market volatility tends to increase significantly at the onset of conflicts, as investors grapple with unpredictable outcomes and the potential for broader economic disruption. While fundamentals eventually tend to reassert their influence over long-term market trends, psychological factors can dominate in the immediate aftermath of conflict escalation. However, historical analysis suggests that once the scope of a conflict becomes clearer, or if the market perceives the impact to be contained, a rebound often follows. This pattern indicates that markets often prefer even grim certainty over prolonged ambiguity, allowing investors to recalibrate their strategies based on new information.