EC The Cuban Missile Crisis – Lessons For Investors

According to the history books, one of the scariest events during the Cold War was the Cuban missile crisis of October 1962, when the world found itself on the brink of nuclear Armageddon. However, the history books might be wrong – at least if you look at what happened on Wall Street during the crisis.

If indeed we were on the brink of a nuclear exchange, one would certainly have expected the stock market to drop like a stone. Nothing of the sort happened. Instead, the S&P500 was little changed during the 13-day standoff between the United States and the Soviet Union.

This is rather remarkable given the horrific things that could have happened. Several reasons can be adduced for why we didn’t see a stock market collapse.

The Cuban missile crisis – lessons for investors

Some have argued that the crisis shows the effectiveness of a strategic doctrine called Mutual Assured Destruction (MAD). Both the US and Soviet Union knew that there would be no winners in a nuclear conflict, which meant that neither had any incentive to start a war. Perhaps investors realised this, and while the global media were trumpeting the risk of a third world war, they refused to panic (contrary the popular stereotype, stock markets are much less prone to panic attacks than policymakers).

Another possibility is that markets knew better than the Kennedy administration and had discounted the geopolitical risks prior to the crisis. US stock prices had already fallen more than 20% in the months before President John F. Kennedy's announcement that the Soviets were deploying nuclear missiles in Cuba.

Either way, the markets were proved right. There was no third world war and the crisis ended after a couple of tense weeks.

That does not mean the Cuban missile crisis went unnoticed by consumers and investors. But we should think about such geopolitical turbulence primarily as a supply shock. Geopolitical crises increase ‘regime uncertainty’ – in an AS/AD framework, they shift the aggregate supply curve to the left, which reduces real GDP growth and increases inflation for a given monetary policy stance.

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