Geopolitics, The New Risk Factor

For a long time, geopolitics was episodic. It showed up as a shock than it faded. What's changed, I think, is that geopolitics is now shaping the rules of the economic system itself. So security concerns are driving trade policy, industrial policy, energy policy, technology access. And to me, that feeds directly into inflation persistence, fiscal trajectories, monetary policy, and of course, capital allocation decisions. So my argument is, and will continue to be, that investor should use geopolitics as a core driver of macro-howcums. Welcome to season five of Well Said, where we explore the cyclical and secular forces shaping capital markets. You'll hear how Wellington investors apply macro, market, and geopolitical research in the pursuit of better investment outcomes. I'm your host, Thomas Mucha. Regular listeners of Well Said have heard me discuss the effects of geopolitics on every corner of the investment universe with my guests. I recently had the pleasure of sitting on the other side of the recording table as a guest on the Institute of Managed Account Professionals Independent Thought Podcast. So today I'm thrilled to share that conversation with engaging host, Emily Barlow, investment director for highly influential Australian private bank, perpetual private. Tune in as Emily and I discussed investment opportunities across today's disruptive geopolitical landscape. Welcome back to the IMAP Independent Thought Podcast. I'm Emily Barlow from perpetual private, and today we're diving straight into a topic that's becoming impossible to ignore. Geopolitics and what it really means for client portfolios. Regardless of your investment philosophy, geopolitics isn't something we can treat as background noise. It's increasing essential to how markets behave from dispersion within equities to supply chain driven inflation trends, commodity dynamics, and currency modes. To help us make sense of it all, I'm joined by Thomas Mucha, Geopolitical Strategists and Member of the Global Macro Strategy Group at Wellington Management, a global independent investment manager spanning public and private markets. Thomas specialises in translating geopolitical and macro risks into clear actionable insights for investors. Thomas, thank you so much for being here. Thanks, Jeremy. I'm Emily. It's a pleasure to be here. So, Thomas, before we dig into specific regions and tensions, can you outline what's structurally different today and why geopolitical developments now have such a direct line into investment portfolios? Yeah, thanks for that question, Emily, which I think is a very important one. And to really understand what's happening across today's fragmented, uncertain, and frankly dangerous geopolitical environment, I think it's critical to start with the structural factors that we're now all living through. And we have two big ones right now that are intersecting. And so, first and most immediately, I believe we're witnessing the end of an 80-year geopolitical cycle. And one that started really with the end of World War II and the beginning of the rules-based order that largely governed international relations and markets ever since. This is a geopolitical cycle that's been very long and very stable in that we've avoided great power conflict over that long period. And therefore, it's been highly conducive to global growth, global trade, economic cooperation, and other aspects of globalization that ultimately has been a huge boom to financial markets. And I think this global system is today coming apart in very important ways. And historically, when that happens, again, about every 80 to 100 years, you tend to see more conflict and political upheaval. So true to that historical form, Emily, we today have more than 60 active conflicts around the world, that state and interest state conflicts. That's double where it was just five years ago. And we're also seeing a higher rate of coups and attempted coups as well, and other domestic political frictions around the world. So history is playing out in a way that's consistent with earlier eras. And this shift in the global order has been happening for several years. It's driven in large part by US-China great power competition, which forces countries all around the world to reassess their relationships with both Washington and Beijing in real time. So the reordering of the world is, and I think we'll continue to be a structural stressor on the global system. But the second structural factor here, and one that's less historically predictable, and I think a bit more long-term, is climate change, which is viewed by all of my national security contacts around the world as further stressing this already unstable geopolitical backdrop, particularly in equatorial and tropical regions, where climate change is hitting hardest, and where not coincidentally, many of the world's biggest geopolitical pressure points sit. So thank North Africa to the entire Middle East, to Iran, Afghanistan, the India-China border, large parts of Central and South America. So my national security contacts view climate change as a stress multiplier. That's the jargon here. And there today planning for a lot more geopolitical disruption as a result, including more resource wars, food and water scarcity issues, more climate migration, more failed states, rising extremism, and other climate challenges in the coming years. And then of course, on top of these two massive structural changes, we're seeing the added uncertainties of the second Trump White House, which has taken a very different approach than previous US administrations in how it's leveraging US military and economic power, how it's using trade and tariffs, and other economic tools in a more transactional way, how it casts the utility of global institutions, and the US Alliance network, and of course, how all of this is being perceived by allies across Europe, and of course in Asia, including longtime US ally Australia. So Emily, I think what's important here in terms of portfolio relevance is that these structural changes, right, once in a century shift in the global order, the deepening stresses of climate change, new questions about US foreign policy objectives, all of this is leading policymakers globally to focus more on national security, often at the expense of economic efficiency. So in a more conflicted, a more uncertain world, with real conflict and real stresses showing up, you know, Ukraine, the Middle East, policymakers that I talk to just about everywhere are increasing defense spending, they're using their economies and industries in a more strategic sense, their reexamining supply chain vulnerabilities and other trade relationships, and this is different. This is not how most investors have thought about geopolitics in the recent past. So for a long time, geopolitics was episodic. So security concerns are driving trade policy, industrial policy, energy policy, technology access, and to me, that feeds directly into inflation persistence, fiscal trajectories, monetary policy, and of course, capital allocation decisions. So from a portfolio perspective, I think this matters because geopolitics, it's not just a source of volatility anymore, I viewed as a structural driver of returns and correlations. It's affecting where growth happens, which sectors get policy support, and how risk premium are priced. So my argument is, and we'll continue to be that investor should view geopolitics as a core driver of macro outcomes. And, you know, that doesn't mean that growth inflation, monetary policy, currencies, and other indicators don't matter, but it does mean that geopolitics, I think, is interacting with and impacting these key investment variables in a more fundamental way than in previous investment regimes. So to really understand markets right now, I think you need to have a thoughtful and actionable view on geopolitics. And I think that's likely to be the case into the foreseeable future. That idea of geopolitics being structural rather than episodic leads neatly into my next question. And around a piece you wrote on the US versus them, that new world order and the idea that global politics is now real. organizing into competing blocks, each with its own strategic priority and alliances. How should we be interpreting this shift towards spears of influence? Yeah, Emily, I think that's really important. I think these complex geopolitical dynamics are forcing us into a more fragmented world, where countries will take actions to, above all, defend their national security objectives. But this is also a world where cooperation and coordination is more difficult than it was in the past, which makes global challenges like climate change, migration, technology dispersion, and others much harder to manage. But I'd frame this less as a clean decoupling and more as selective fragmentation. The world isn't splitting neatly into two identifiable camps, similar to what we saw during the US Soviet Cold War. Instead, what I'm seeing is that countries are hedging. They're maintaining diplomatic and economic relations wherever possible, while protecting strategic sectors tied to their own security and their own resilience. So for asset allocators for investors, I think this presents opportunity. It means dispersion is rising. It means country and sector outcomes diverge more sharply based on things like policy alignment, institutional credibility, and especially strategic importance. Global diversification still matters, of course, but passive exposure, I think becomes risk here. The opportunity set, in my view, is rewarding active allocation, thoughtful regional exposure. I think it offers ongoing opportunities to find winners and losers at regional levels, country levels, company industry, asset class levels. Again, it requires an understanding of how politics, especially geopolitics in these emerging dynamics is shaping all of this. And of course, we've talked on competing blocks and one of the most consequential relationships which we've already touched on briefly is the US and China. So where does this relationship stand today and what are the most relevant implications for an S-Bus? So I think the US-China relationship is by far the most important geopolitical factor to monitor. But that's true today. I think that's going to be true for a very long time. And essentially, I think it comes down to a single question. Can these two countries, the world's biggest economies, the two biggest militaries, the two biggest players in key industries and emerging technologies, really the two dominant actors on the global stage, can they manage through today's complex, rapidly shifting, uncertain geopolitical dynamic without falling into catastrophic conflict, especially in areas where each country's core interests diverge and there's a lot of those areas. That to me is the biggest question. And it's the one that will determine if we have geopolitical stability in coming years and decades or we get something else. And so I think it comes down to how leaders in Washington and in Beijing today and into the future manage this great power competition. And over technology, including the national security implications of AI and what that means for military and economic power or critical resources or how each side works with or doesn't work with traditional allies along the way. So in my view, I'm aware that the US-China relationship is now structurally competitive. It's not cyclical. But importantly, and while I do think geopolitical and policy risks are elevated, it doesn't mean that conflict here is the base case. The more important market reality, I think, is that both the US and China are prioritizing national and economic security over efficiency. And I think that means ongoing friction around technology, again, especially around AI, but also across supply chains in a variety of strategic industries, even in periods of relative stability in the relationship. So for portfolios, the implication isn't binary risk-on or risk-off. I think it's persistent policy uncertainty. And that argues for, again, diversification across Asia and globally. It argues for caution around single-point supply chains. And I think a recognition that volatility premiums in tech, in semiconductors, in critical minerals, space-based technologies, other key sectors like robotics, automation are likely here to stay. So I do think there's going to be lots of opportunity amid this ongoing and lingering great power competition and the disruptions that it's likely to cause. So something, and whilst we say on the US, something that stood out to me whilst reading one of your easter than articles is your view that the Western hemisphere is becoming far more important to US strategy. Why is it that the US is placing greater emphasis on this region now? And how might that reshape emerging market opportunities as an example? So I think the Trump administration focus on the Western hemisphere has been made explicit by first the actual policy direction. That's embedded in the most recent US national security strategy, which specifically states the importance of the US near abroad, right, what's in the so-called backyard of the United States. And second, and I think more importantly, it's been made explicit by its actions in rhetoric since the beginning of the second Trump administration. And what I mean here is the rhetoric around Canada as the 51st state, Panama Canal ownership issues, US economic interest and loans in Argentina, which happened early on. And most recently, it's rhetoric and actions in Greenland and of course Venezuela, both of which this administration views as being core to US national security. So if I apply my geopolitical reading here, I think the US is rediscovering geography, simply put, especially in places close to its perceived backyard where, you know, back to my earlier point, great power rivals, you know, Russia and especially China have increased their economic, military and diplomatic influence in recent years. So in that context, I think policy priorities like near-shoring, friend-shoring are driven by supply chain security, energy independence and political stability, not just cost. So that elevates parts of Latin America and the broader western hemisphere. And I think it's happening in very uneven and again differentiated ways. So to your question about what does that mean for EMs, I think this increases dispersion between emerging markets. So countries with, let's say, institutional stability or credible policy frameworks and integration into US trade and energy systems, I think those countries stand to benefit while others face higher political and financing risk. So my takeaway here is that EM exposure becomes more selective and I think country choice matters much more than the headline EM story does. And again, that's different from the recent past. So you've touched on climate change and climate risks already and mentioning it as a stress multiplier. But at the same time we're seeing countries wind back climate commitments. With that in mind, how should we be thinking about climate risk, energy, political context that also relating that back to those core value apps? Right. So as I mentioned earlier, climate risk has become a geopolitical risk because it intersects with security, with migration, with food systems, with industrial policy. And beyond those core national security areas, I think governments now seek climate and especially the energy transition or decarbonization, not just as environmental issues, but as strategic capabilities. That's because energy demand is real. And so too is China's dominance in this key sector through the great powerland. So I think these geopolitical aspects change how capital is being allocated here and how policy risk is priced. So for portfolios, what we're seeing is that climate is showing up really in three ways. Are you seeing it in a physical disruption? Right. Actual climate impacts. Are you seeing it in policy volatility? I think that's what you just alluded to with recent Trump administration actions. But I think the key point here is structural investment opportunity. I think this is a long-term trend. I think because it's so central to national security. It's likely to happen. So I think the key here isn't predicting narratives. It's understanding which assets and which regions are more resilient, which benefit from adaptation, infrastructure, and a broader energy system transformation. I think that's a large and global opportunity set. And I think, as I said, it's one that will continue to get global policy support overall, given the direct links here between climate change and national security. So we've already talked a little bit about active in the dispersion and the opportunities, but of course, we've seen a real dominance of passive strategies and underperformance of active in certainly the last few years, if not the last decade. So do you think now is a real inflection point for active management? Yes, I do. Thanks, Emily. I think fragmentation, policy risk, and dispersion that we're seeing from all of this, they all favor active management. So I think this disrupted and differentiated geopolitical outlook that's accelerating is best supported by finding winners and losers across a variety of dimensions. And it's why I think this is such an opportune moment for long short and other alternative strategies too. And by contrast, passive strategies, broad beta exposure, I think work best in stable integrated environments, like we saw during the heyday of globalization, I don't think we're in that world anymore. Second, and just as importantly, a reordering of the global system comes around rarely, like I said before, every 80 to 100 years. So I think it's also an opportune time to get more exposure to national security and national security adjacent themes that will likely to continue to get more policy support talents. So from this thematic standpoint, the most compelling areas, in my view, and where I spend most of my research time, combine return potential with resilience. So I think defense and security ecosystems, energy transition infrastructure, supply chain redundancy, reindustrialization strategies, and select a small cap and emerging market exposures that are aligned with these new industrial policies. And I think in this environment, Emily, flexibility, selectivity, right, those are sources of alpha. And critically, this is true not only in public markets, but increasingly across the private company sector, where many of these new innovations are taking root. So again, yes, it's a challenging geopolitical backdrop, but it's one that I believe is filled with investment opportunities if you know where to look, and if you know how to apply these lessons across a diverse strategy. So to represent Thomas, looking forward maybe over next 12 or 18 months, one of the top two or three geopolitical signposts that we should be keeping an eye on. Well, first policy shocks. So think trade measures, tariffs, sanctions, industrial policy decisions, things like that tend to move markets faster than elections. Those shocks, of course, are hard to predict. They wouldn't be called shocks if they were easy to see. But I do believe they are more likely in this world of transition that we're in. So I do think scenario planning is something that's particularly useful from a portfolio perspective. I think we're in a world where there's a wider set of potential outcomes. So recruiting investors would do well to continually assess portfolio risks, their exposures, but also the potential opportunities in this more volatile backdrop. A second signpost that I monitor pretty much every day is China's economic trajectory and China's policy response, which of course has implications for commodities, for Asia in general, for global risk sentiment. And here is a secondary signpost, Emily. I'm focused on the planned April summit between presidents Xi and Trump in Beijing, which I think is likely to give us more clues about the short to medium-term trajectories of US-China relations and all of those related variables. I think a third signpost would be energy and security flashpoints that feed directly into market liquidity, particularly issues in the Middle East and in global shipping lanes. And the last point I'd emphasize here for investors is that I don't think these are abstract risks. I think there's signposts that shape inflation, they shape growth, and volatility across both markets and portfolios. So it's all part of this brave new world that we're living through. And of course, deploying capital into every day. Thomas, thank you so much. Today's discussion has really invited us to think differently about the world. Our clients are invested into, and I've certainly enjoyed the conversation today. For our listeners, I think something to reflect on is that we don't necessarily need to be forecasting your political outcomes, but we do need to help our clients understand why the environment might be shifting, why long-term positioning matters, and how resilience and diversification can support goals through uncertainty. Thanks again so much for joining us, and thank you to everyone for listening. And that concludes my conversation with Emily Barlow for the IMAP podcast. Always great to chat about the value of looking at markets and investments through a geopolitical lens. Thanks so much for listening to this special edition of WellSend. The WellSend podcast is a production of Wellington Management. Our producers are Amanda Dockerty, Mark Murphy, and Dana Wicks' Ted. The show is recorded, mixed, and edited by Mark Murphy, production support from Dave Crowe and Rasa Saramount, animation support from Rasa Saramount. You can listen to the WellSend podcast on Wellington.com, Apple podcasts, Spotify, or wherever you get your podcasts. Thanks for listening.