Navigating uncertainty
BLACKROCK INVESTMENT INSTITUTE

Geopolitical risk dashboard

September 2022 | A new geopolitical world order is coming more clearly into view. COVID-19 and Russia’s invasion of Ukraine have deepened fragmentation and the emergence of competing geopolitical blocs. Our BlackRock Geopolitical Risk Indicator is hovering just above its historic average, meaning investors remain attentive to geopolitical risks.

BlackRock Geopolitical Risk Indicator

The global BlackRock Geopolitical Risk Indicator (BGRI) aims to capture overall market attention to geopolitical risks, as the line chart shows. The indicator is a simple average of our top-10 individual risks. Its level has declined from its March peak in the wake of the Russian invasion of Ukraine. For sure, market attention to selected individual risks such as Russia-NATO conflict remains elevated and has kept the global gauge above its five-year average.

Free Form Html-1,Advance Static Table-1
Paragraph-2,Free Form Html-2,Advance Static Table-2
Paragraph-3,Paragraph-4
Paragraph-5
 
Global indicator
Forward-looking estimates may not come to pass. Source: BlackRock Investment Institute. . The BlackRock Geopolitical Risk Indicator (BGRI) tracks the relative frequency of brokerage reports (via Refinitiv) and financial news stories (Dow Jones News) associated with specific geopolitical risks. We adjust for whether the sentiment in the text of articles is positive or negative, and then assign a score. This score reflects the level of market attention to each risk versus a 5-year history. We use a shorter historical window for our COVID risk due to its limited age. We assign a heavier weight to brokerage reports than other media sources since we want to measure the market's attention to any particular risk, not the public’s.
 

Top 10 risks by likelihood

We lower the likelihood of our Gulf tensions risk to medium amid increased prospects for a revived Iranian nuclear deal. We keep our Russia-NATO conflict, Major cyber attacks and Global technology decoupling risks at high levels. We believe market prices currently underestimate risks such as Major cyber attacks

Risk Description Market attention since 2019 Likelihood Our view
Russia-NATO conflict Russia launches a large-scale invasion of Ukraine. The U.S. and EU respond with financial, energy and technology sanctions on Russia. Russia-NATO conflict chart High Russia’s invasion of Ukraine is the largest, most dangerous military mobilization in Europe since WWII. Russian President Vladimir Putin failed in his initial aim to deny Ukraine sovereignty. The war is now moving into a more dynamic phase: Ukraine is pursuing counter-offensives in the south and northeast, and Russia is mobilizing additional troops and preparing to annex territory in eastern Ukraine. A settlement of the conflict at this point looks unlikely, in our view. Instead, we see an extended conflict, alongside a long-term political, economic and military standoff between the West and Russia. There is an ever-present risk of intentional or accidental escalation between NATO and Russia.
Global technology decoupling Technology decoupling between the U.S. and China significantly accelerates in scale and scope. Global technology decoupling chart High Strategic competition between the U.S. and China is driving global fragmentation as both focus on boosting self-reliance, reducing vulnerabilities and decoupling their tech sectors. We think western sanctions on Russian technology imports will exacerbate fragmentation and deepen the global focus on reliable supply chains. The U.S. has enacted the CHIPS and Science Act aimed at boosting competitiveness in critical technologies such as semiconductors. And the SEC is increasing disclosure requirements for Chinese firms listing in the U.S. The U.S. has also announced sanctions against Chinese companies undermining U.S. sanctions on Russia and is considering controls on outbound investment into China.
Major cyberattack(s) Cyberattacks cause sustained disruption to critical physical and digital infrastructure. Major cyberattack(s) chart High We see the likelihood of cyber attacks increasing as the Russia-Ukraine conflict evolves into an extended war of attrition. Critical government and private sector networks as well as infrastructure are vulnerable to hacking and spying, and the U.S. government is advocating for additional required protections. Financial market reactions, however, have been muted. Attacks are increasing in scope, scale and sophistication, with the U.S. facing an “epidemic” of ransomware. Repeated attacks could cause significant damage and sustained disruption, which may spill over to financial markets and the economy.
Emerging markets political crisis Ripple effects from the Ukraine crisis severely stress EM political systems and institutions. Emerging markets political crisis chart Medium Spillover effects from the Ukraine crisis are set to amplify challenges for emerging economies. EMs were already struggling with inflation and a slow economic rebound from the pandemic. They now face compounded pressure from high food and energy prices, higher U.S. interest rates and slowing Chinese growth. Social unrest, already noticeable in various countries, remains a risk. There is a long history of food shortages and inflation causing instability in EMs. We see the potential for a wave of sovereign defaults.
U.S.-China strategic competition China takes military action to accelerate reunification with Taiwan or forcefully assert claims in the South China Sea. U.S.-China strategic competition chart Medium Taiwan has become the key flashpoint in U.S.-China relations. Beijing has responded to U.S. House Speaker Nancy Pelosi’s visit to Taiwan with an unprecedented set of live-fire exercises, import bans and sanctions against U.S. officials. China also suspended military, climate and other dialogues with the U.S. Chinese actions have reset the status quo around Taiwan, in our view, making additional steps to pressure the island more likely. We think the U.S. Congress will continue to support closer Taiwan relations, elevating tensions. We do not see a military confrontation in the short to medium term, but believe the risk will increase significantly in the long run.
Major terror attack(s) A terror attack leads to significant loss of life and commercial disruption. Major terror attack(s) chart Medium The killing of Al-Qaida leader Ayman al-Zawahiri demonstrates the strength of U.S. counterterrorism capabilities, even after the withdrawal from Afghanistan. It should weaken Al-Qaida, according to U.S. intelligence, but the international terrorist threat persists with affiliate networks and ISIS still active. The U.S. administration has underscored the growing risk of domestic terrorism, calling it the most serious and persistent terrorist threat to the homeland. We see the threat increasing in the lead-up to the November midterm elections.
North Korea conflict North Korea pushes ahead with its nuclear buildup and takes provocative actions such as missile launches. North Korea conflict chart Medium North Korea’s nuclear program continues unabated across all its dimensions. North Korea has rebuffed talks with the U.S. and significantly escalated provocations, including conducting ballistic missile tests during U.S. President Joe Biden’s May trip to the region. We do not see an imminent threat of regional conflict. Yet tensions will increase this year, in our view. This could include additional long-range missile tests and a seventh nuclear test. We believe markets are underappreciating this risk.
Gulf tensions Iran nuclear talks collapse, and tensions escalate, raising the risk of a regional conflict. Gulf tensions chart Medium Progress toward a revived nuclear deal with Iran appears to have stalled, and key hurdles remain. A deal and Iranian nuclear compliance would lead to U.S. sanctions removal and oil market relief. Without a deal, we see increasing risks of military action and upward pressure on oil prices. Outside of Iran, there has been a general de-escalation of tensions among Gulf oil producers. The Abraham Accords and diplomatic efforts by the Biden administration are enhancing cooperation between Israel and Arab states such as the UAE.
Climate policy gridlock Developed economies fail to increase public investment or take action to achieve net-zero emission targets. Climate policy gridlock chart Medium The crisis in Ukraine has brought energy security to the forefront. The world will need more non-Russian fossil fuels in the near term, but we believe the crisis will ultimately accelerate the net-zero transition. In Europe, the energy shock will likely boost decarbonization plans and make clean energy more competitive as the oil-importing continent seeks greater energy security. In the U.S., there is more political polarization around energy and climate change. Recent legislation will provide greater transition incentives and likely spur other countries to take action, in our view.
European fragmentation The energy crunch and inflationary pressures lead to a populist resurgence and economic volatility. European fragmentation chart Low The Ukraine crisis triggered a strong impulse toward European unity, as governments came together to impose sanctions on Russia and support Ukraine’s military. There is a risk of divisions emerging as the war becomes protracted and economic costs mount. We see Europe’s effort to wean itself off Russian energy as among the most significant challenges ahead. September elections in Italy are likely to give rise to a conservative government led by the far right Fratelli d’Italia. This could increase tensions with European institutions on the implementation of Italy's National Recovery and Resilience Program, in our view, and more generally on the speed of fiscal adjustment.

Sources: BlackRock Investment Institute, with data from Refinitiv. Data as of July 2022. Notes: The “risks” column lists the 10 key geopolitical risks that we track. The “description” column defines each risk.  “Market attention” is a graphical snapshot of recent movement in the BlackRock Geopolitical Risk Indicator (BGRI) for each risk. The BGRI measures the degree of the market’s attention to each risk, as reflected in brokerage reports and financial media. See the "methodology" tab for details. The table is sorted by the “Likelihood” column which represents our fundamental assessment, based on BlackRock’s subject matter experts, of the probability that each risk will be realized – either low, medium or high – in the near term. The “our view” column represents BlackRock’s most recent view on developments related to each risk. This is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any funds or security in particular. Individual portfolio managers for BlackRock may have opinions and/or make investment decisions that may, in certain respects, not be consistent with the information contained herein.

Comparing market movements and attention

We have developed a market movement score for each risk that measures the degree to which asset prices have moved similarly to our risk scenarios, integrating insights from our Risk & Quantitative Analysis (RQA) team and their Market-Driven Scenario (MDS) shocks. We do this by estimating how “similar” the current market environment is to our expectation of what it would look like in the event the particular MDS was realized, also taking into account the magnitude of market moves. The far right of the horizontal axis indicates that the similarity between asset movements and what our MDS assumed is greatest; the middle of the axis means asset prices have shown little relationship to the MDS, and the far left indicates markets have behaved in the opposite way that our MDS anticipated.

Risk map
BlackRock Geopolitical market attention, market movement and likelihood

 
Forward-looking estimates may not come to pass. Source: BlackRock Investment Institute. . Notes: The vertical axis depicts the market attention to each of our top-10 risks, as reflected in brokerage reports and financial media and measured by the BlackRock Geopolitical Risk Index (BGRI). The horizontal axis shows our estimate of the degree to which asset prices have moved in accordance with our risk scenarios (horizontal axis). See the “How it works” tab for details. The color of the dots indicates our fundamental assessment of the relative likelihood of the risk – low, medium or high, as per the legend. Some of the scenarios we envision do not have precedents – or only imperfect ones. The scenarios are for illustrative purposes only and do not reflect all possible outcomes as geopolitical risks are ever-evolving. The chart is meant for illustrative purposes only. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any funds, strategy or security in particular.

Selected scenario variables

How to gauge the potential market impact of each of our top-10 risks? We have identified three key “scenario variables” for each – or assets that we believe would be most sensitive to a realization of that risk. The chart below shows the direction of our assumed price impact.

Geopolitical risk Asset Direction of assumed price impact
Russia-NATO conflict Russian equities Downwards arrow
Russian ruble Downwards arrow
Brent crude oil Upwards arrow
Global technology decoupling Chinese yuan Downwards arrow
U.S. investment grade Downwards arrow
Asia ex-Japan electrical Downwards arrow
Major cyberattack(s) U.S. high yield utilities Downwards arrow
U.S. dollar Upwards arrow
U.S. utilities sector Downwards arrow
Emerging markets political crisis Latin America consumer staples sector Upwards arrow
Emerging vs. developed equities Downwards arrow
Brazil debt Downwards arrow
U.S.-China strategic competition Taiwanese dollar Downwards arrow
Taiwanese equities Downwards arrow
China high yield Downwards arrow
Major terror attack(s) Germany 10-year government bond Upwards arrow
Japanese yen Upwards arrow
Europe airlines sector Downwards arrow
North Korea conflict Japanese yen Upwards arrow
South Korean won Downwards arrow
South Korean equities Downwards arrow
Gulf tensions Brent crude oil Upwards arrow
VIX volatility index Upwards arrow
U.S. high yield credit Downwards arrow
Climate policy gridlock U.S. building products sector Downwards arrow
U.S. construction materials sector Downwards arrow
U.S. utilities sector Upwards arrow
European fragmentation Italy 10-year government debt Downwards arrow
EMEA hotels and leisure Downwards arrow
Russian rouble Downwards arrow

Source: BlackRock Investment Institute, with data from BlackRock’s Aladdin Portfolio Risk Tools application, August 2022. Notes: The table depicts the three assets that we see as key variables for each of our top-10 geopolitical risks – as well as the direction of the assumed shocks for each in the event of the risk materializing. The up arrow indicates a rise in prices (corresponding to a decline in yields for bonds); the down arrow indicates a fall in prices. Our analysis is based on similar historical events and current market conditions such as volatility and cross-asset correlations. See the “implied stress testing framework” section of the 2018 paper Market-Driven Scenarios: An Approach for Plausible Scenario Construction for details. For illustrative purposes only. The scenarios are for illustrative purposes only and do not reflect all possible outcomes as geopolitical risks are ever-evolving. This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any funds, strategy or security in particular.

We detail the key geopolitical events over the next year in the table below.

2022 Location Event
September
September 8 Euro area European Union flag European Central Bank meeting
September 11 Sweden Sweden flag General election
September 20 U.S. US flag Federal Reserve meeting
October
October 2 Brazil Brazil flag General election
October 27 Euro area European Union flag European Central Bank meeting
October 27 Japan Japan flag Bank of Japan meeting
November
November 1 U.S. US flag Federal Reserve meeting
November 8 U.S. US flag Midterm elections
December
December 13 U.S. US flag Federal Reserve meeting
December 15 Euro area European Union flag European Central Bank meeting

Source: BlackRock Investment Institute, September 2022. 
Note: European Central Bank meetings shown are those accompanied by press conferences. The Bank of Japan events shown are followed by the publication of the central bank’s outlook report.

How it works

The quantitative components of our geopolitical risk dashboard incorporate two different measures of risk: the first based on the market attention to risk events, the second on the market movement related to these events.

Market attention 

The BlackRock Geopolitical Risk Indicator (BGRI) tracks the relative frequency of brokerage reports (via Refinitiv) and financial news stories (Dow Jones News) associated with specific geopolitical risks. We adjust for whether the sentiment in the text of articles is positive or negative, and then assign a score. This score reflects the level of market attention to each risk versus a 5-year history. We use a shorter historical window for our COVID-19 risk due to its limited age. We assign a heavier weight to brokerage reports than other media sources since we want to measure the market's attention to any particular risk, not the public’s.

Our updated methodology improves upon traditional “text mining” approaches that search articles for predetermined key words associated with each risk. Instead, we take a big data approach based on machine-learning. Huge advances in computing power now make it possible to use language models based on neural networks. These help us sift through vast data sets to estimate the relevance of every sentence in an article to the geopolitical risks we measure.

How does it work? First we “train” the language model with broad geopolitical content and articles representative of each individual risk we track. The pre-trained language model then focuses on two tasks when trawling though millions of brokerage reports and financial news stories:

  • classifying the relevance of each sentence to the individual geopolitical risk to generate an attention score,
  • classifying the sentiment of each sentence to produce a sentiment score

The attention and sentiment scores are aggregated to produce a composite geopolitical risk score. A zero score represents the average BGRI level over its history. A score of one means the BGRI level is one standard deviation above its historical average, implying above-average market attention to the risk. We weigh recent readings more heavily in calculating the average. The level of the BGRIs changes slowly over time even if market attention remains constant. This is to reflect the concept that a consistently high level of market attention eventually becomes “normal.”

Our language model helps provide more nuanced analysis of the relevance of a given article than traditional methods would allow. Example: Consider an analyst report with boilerplate language at the end listing a variety of different geopolitical risks. A simple keyword-based approach may suggest the article is more relevant than it really is; our new machine learning approach seeks to do a better job at adjusting for the context of the sentences – and determining their true relevance to the risk at hand.

Market movement

In the market movement measure, we use Market-Driven Scenarios (MDS) associated with each geopolitical risk event as a baseline for how market prices would respond to the realization of the risk event.

Our MDS framework forms the basis for our scenarios and estimates of their potential one-month impact on global assets. The first step is a precise definition of our scenarios – and well-defined catalysts (or escalation triggers) for their occurrence. We then use an econometric framework to translate the various scenario outcomes into plausible shocks to a global set of market indexes and risk factors.

The size of the shocks is calibrated by various techniques, including analysis of historical periods that resemble the risk scenario. Recent historical parallels are assigned greater weight. Some of the scenarios we envision do not have precedents – and many have only imperfect ones. This is why we integrate the views of BlackRock’s experts in geopolitical risk, portfolio management, and Risk and Quantitative Analysis into our framework. See the 2018 paper Market Driven Scenarios: An Approach for Plausible Scenario Construction for details. MDS are for illustrative purposes only and do not reflect all possible outcomes as geopolitical risks are ever-evolving.

We then compile a market movement index for each risk.* This is composed of two parts:

  • Similarity: This measures how “similar” the current market environment is to our expectation of what it would look like in the event the particular MDS was realized. We focus on trailing one-month returns of the relevant MDS assets.
  • Magnitude: this measures the magnitude of the trailing one-month returns of the relevant MDS assets.

These two measures are combined to create an index that works as follows:

  • A value of 1 would means that the market has reacted in an identical way as our MDS indicated. We call this “priced in.”
  • A value of zero would indicate that the pattern of asset prices bears no resemblance at all to what the MDS for a particular risk would indicate.
  • A value of -1 would indicate that assets are moving in the opposite direction to what the MDS would indicate. Markets are effectively betting against the risk.

*This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events  or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding any funds, strategy or security in particular. The scenarios are for illustrative purposes only and do not reflect all possible outcomes as geopolitical risks are ever-evolving.

A number of commentators have noted that crises put history on fast forward, that decades can happen in a matter of days or weeks. The coronavirus has accelerated and exacerbated the geopolitical trends that preceded it. There are many uncertainties ahead as we try to envision the post-COVID world order. But there three themes that will be key to defining it.

At the beginning of this year, we noted that U.S.-China relations had shifted into a more competitive phase. Now, we see U.S.-China relations as transitioning into intense rivalry across nearly every dimension of the relationship, including trade, technology, ideology, defense issues and more. This is happening amid an election year in the U.S. U.S. steps to confront China have bipartisan support, which means that this dynamic is likely to outlast both the crisis and the U.S. presidential campaign.

The second theme is deglobalization. The pandemic has compounded existing pressures on globalization and supply chains. Pressures that were rising in the aftermath of the 2008-2009 financial crisis as well as U.S.-led trade wars of the past few years and rising nationalist and protectionist sentiment around the world.

The third theme is inequality. The pandemic will exacerbate divergences both between and within countries, leaving us with a world that is substantially more unequal. Many emerging markets and developing countries will be badly damaged as they have weak healthcare infrastructure, limited institutional capacity, poor governance in some cases and little policy space to maneuver. This pandemic could erase decades of progress in the fight against poverty and the building of middle-class households.

The bottom line is that geopolitical fragmentation is rising. U.S.-China tensions will intensify, deglobalization will accelerate and inequality will widen both within and between countries. This reinforces the need for resilience in portfolios and the drive towards sustainable investing.

Three geopolitical themes shaping the post-COVID-19 world

The pandemic has accelerated the geopolitical trends we were watching in the beginning of 2020. On this episode of the BlackRock Bottom Line, Catherine Kress, Advisor to the Chairman of the BlackRock Investment Institute, highlights three themes that will shape the post-COVID-19 world.

Stay ahead of markets with the latest insights from the BlackRock Investment Institute.

Please try again
First Name *
Please enter a valid first name
Last Name *
Please enter a valid last name
Email *
Please enter a valid email
Investor type *
This field is mandatory
Location *
This field is mandatory
Company *
This field is mandatory
Thank you
Thank you for your subscription!
We usually publish weekly insights on every Monday. Expect to receive your first newsletter from us this upcoming Monday.