Diversifying away the risk of war and cross-border political crisis

- We document significant falls in stock market indices around political crises and wars.
- Crude oil and sovereign bonds record positive returns during these episodes.
- Both oil and bonds act as safe haven assets during periods of political tensions.
- Consequently, these two asset classes should be a part of a diversified portfolio.

This paper investigates the behavior of crude oil prices, government bonds, and stock market indices around outbreaks of severe international crises and wars. Using a constant mean return event study, we show that these events are associated with positive and significant abnormal returns on oil and bonds, which means that these two asset classes can potentially shelter shareholders from plummeting equity values during international crises. A formal safe haven analysis confirms this insight. Such price movements may reflect a reallocation of funds across asset classes in response to the events, as well as shifts in the demand for oil due to precautionary, speculative, and military motives. We also calculate the weights for optimal portfolios, which could provide insurance against conflict risk.