How would the stock market move in the new era of a cold war between the US and China?

 

The COVID-19 pandemic has surely soured the already tense relationship between the US and China. Now, the issue does not seem to be limited to trade deficit, but rather demands a more serious rethinking and restructuring of the mutually beneficial relationship that has defined the US and China since the establishment of the diplomatic relationship in 1972.

 

With the Trump Administration blaming China for the liability of the virus and its aftermath, now the relationship between China and the US further bears the resemblance of the Cold War between the US and the Soviet Union.

 

In this changing geopolitical environment, history may provide a useful guide for investors. Let us have a look at how the US stock market performed during and post-Cold War period.

 

Dow Jones Index during the Cold War

Source: Capital IQ

 

The chart shows that the Dow Jones has grown at 6.9% annually from the Dow Jones Index 180 at the beginning of the Cold War in 1947 to the Dow Jones Index 3,169 at the end of the Cold War in 1991.

 

From the end of the Cold War to today, the Dow Jones Index has grown 3,169 to 24,346, showing annual growth rate of 7.8%.

 

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But what is interesting to note is that the stock market grew exponentially right after the US won hegemony over the Soviet Union from 1991 to 2000. In this period, the stock market grew at an astonishing annual growth rate of 14.3%.

 

Why has the stock market grown much more in the post-Cold War period? This is probably due to a number of factors, such as less spending on military and more economic growth coming from globalization and trade.

 

Whatever the reasons are, if the relationship between the US and China resembles the New Cold War period rather than a cooperative, symbiotic relationship via trade, most likely outcomes based on history are the following:

  • The stock market will continue to grow, albeit at a much slower rate as there is increased military spending that cannibalizes resources and less trade;
  • When and if the US wins the New Cold War with China, eventually, then the stock market may experience explosive growth once again; and
  • If China wins, then obviously that means a bull market for China.

 

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