Fifteen years ago this week, US stock markets were closed, with stunned investors bracing themselves for heavy losses following the September 11th attacks that resulted in the deaths of almost 3,000 people.
Heavy losses did indeed follow, but the obvious lesson for investors from this sorry episode is simple: stock markets are resilient to terrorist attacks and it seldom pays to sell in times of panic.
The New York Stock Exchange (NYSE) was closed in the immediate aftermath of the attacks, not reopening for trading until the following week, on September 17th – its first prolonged closure since 1933. A mini-crash followed: the Dow Jones Industrial Average fell 7.1 per cent – 684 points, its biggest one-day point fall on record.
Stocks continued to tumble for the rest of the week, the Dow enduring a 16 per cent peak-to-trough decline. Airline stocks were worst hit – a number of airlines saw their share prices more than halve while the Dow Jones Transportation Average quickly lost more than a quarter of its value.
The market panic was a short-lived affair, however. The Federal Reserve cut interest rates and flooded the financial system with liquidity, reassuring investors. By the middle of October, stocks were back to pre-attack levels and indices continued to advance, with both the S&P 500 and the Dow gaining in the region of 25 per cent over a three-month period.
Pearl Harbour
The market reaction to 9/11 echoed that seen following another attack on American soil, the Japanese bombing of Pearl Harbour in 1941. Stocks fell by 4.4 per cent on the Monday following the attacks and by another 3.3 per cent the following day before quickly stabilising.
But, within weeks, the Dow had nearly erased its post-attack losses, with stocks going on to post stellar returns over the following years.
In 1920, 38 people lost their lives following an anarchist bomb attack on Wall Street that resulted in the immediate shutdown of the NYSE. When the exchange reopened for trading the following day, stocks bounced by 1.5 per cent.
This pattern – a short-lived market shock that is quickly followed by equity index rebounds – is typical. Examining 25 global terrorist attacks over the last five decades, Charles Schwab strategist Jeffrey Kleintop found that, on average, stocks returned to pre-attack levels in less than three weeks. On most occasions, markets had regained their composure within a week or less.
A similar picture emerges from analysis conducted by Ned Davis Research: three-quarters of the time, indices have gained within a month of a terrorist event.
Increasingly blasé
If anything, markets appear to be increasingly blasé regarding the economic impact of terrorist events. Investors’ default reaction appears to be that terrorist-induced declines are a buying opportunity, resulting in increasingly brief declines.
For example, Indonesian equities quickly plunged 10 per cent after the 2002 Bali bombings that killed 202 people but these losses were erased within a month. Spain’s Ibex 35 index fell by 3.1 per cent in the hours following the Madrid bombings of March 2004 but major market indices were back to pre-attack levels within weeks. In 2005, British share prices quickly fell by 4 per cent following reports that 52 people had been killed in co-ordinated bomb blasts across London but, on this occasion, the bulk of those losses had been erased by the end of the trading day.
In particular, the spate of Islamic terrorist attacks over the last 18 months has gone largely unnoticed by investors. France's CAC-40 advanced on the day of the Charlie Hebdo attacks in January 2015. The co-ordinated Islamic State attacks of November 2015 that resulted in the deaths of 130 people in Paris initially resulted in the French equity index sliding by 1.2 per cent, but the CAC 40 stocks ended the day flat while the pan-European Stoxx 600 index posted small gains.
The "terrorism trade", noted Bespoke Investment Group at the time, "lasted less than a session". French stocks were largely unaffected by the Nice truck attack in July that left 84 people dead. In March, Belgium's BEL 20 index fell by 1.3 per cent after Islamic State militants killed 32 people in co-ordinated bomb blasts in Brussels, but the index ended the day slightly higher, as did the Stoxx 600.
Market change
It’s natural that the aforementioned terrorist incidents did not affect stock markets to the same degree as the 9/11 attacks; in terms of scale, September 11th dwarfs the jihadist attacks of the last 15 years. It’s reasonable to infer, however, that investors’ perception of terrorist events changed in the aftermath of September 11th.
A 2013 study, The Impact of Terrorism on Stock Markets, noted that stock markets have learned not to overreact and to "more objectively" evaluate the "real economic consequences" of terrorist attacks. Markets tend to be agitated by shock events, but terrorist attacks are no longer unexpected; rather, they are increasingly priced into stocks, with market dislocations noticeably diminishing over time.
Even retail investors, who have a reputation for skittish behaviour in times of uncertainty, appear nonchalant regarding the impact of terrorist atrocities on their portfolios. In April, a Bankrate Financial Security Index survey asked people if the terrorist attacks in France and Belgium had affected their willingness to invest in stocks. The vast majority said it made no difference either way; 11 per cent did say they were less inclined to invest but 5 per cent said they were more likely to invest in equities.
Recessions tend to be the primary drivers of equity bear markets, but the economic impact of terrorist events tends to be limited. The US recession of 2001 is often associated with 9/11, but America had fallen into recession in March 2001; it officially ended in November 2001, with some estimates suggesting that the attacks reduced US GDP growth by half a percentage point.
Attacks can hit confidence in the short term, but acts of terror “do not derail economic trends in mature western economies”, to quote a 2015 Berenberg Bank report.
Tourism can be badly affected by terrorism – tourist numbers are down by 7 per cent in France this year – although again this effect appears to be waning, with Deloitte last year noting that hotel occupancy rates tend to recover due to the “emergence of a ‘carry on as normal’ culture in response to terrorism” over the last decade.
Complacency
There is of course a danger that investors could take this "carry on as normal" culture too far and become complacent about the indirect impact of terrorism. For example, while 9/11 did not derail the US economy, it led to the US invasion of Afghanistan and was also used to justify the 2003 Iraq war.
Furthermore, the Federal Reserve slashed interest rates and left them at lowly levels even as the economy began to boom in 2004, with many commentators complaining that the 9/11 effect resulted in them maintaining an excessively loose monetary policy that ultimately led to the housing bubble and subsequent financial crash.
Similarly, while jihadist attacks may not hit European GDP, they have increased political risks across Europe.
Still, it is nigh on impossible to quantify the impact of such political risks on stock markets. Even if one had a crystal ball in relation to political developments, divining the response of stock markets is another matter entirely, as shown by the post-Brexit rally of recent months.
Fifteen years on from 9/11, investors have learned to accept that event risk in the form of terrorist attacks is not going to go away. They have learned to live with that risk, realising that it does not pay to panic at such times; whatever about the human cost of terrorism, the financial cost to investors tends to be an increasingly short-lived affair.
