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Can Terrorism Affect The Stock Market?

Can Terrorism Affect The Stock Market?

Trading and Investing

Following the attacks, the New York Stock Exchange (NYSE) and the NASDAQ, two of the world’s largest stock exchanges, were closed for four trading days, marking the longest shutdown since 1933. When the markets reopened on September 17, 2001, they experienced significant losses, with the Dow Jones Industrial Average falling 684 points, or 7.1%, in a single day, its largest-ever point drop at that time. This steep decline reflected the uncertainty and anxiety gripping investors, as well as concerns about the broader economic impact of the attacks. The attacks not only caused immediate market turmoil but also contributed to a deeper economic malaise, exacerbating an existing economic downturn and leading to heightened security and insurance costs. The financial sector, particularly industries like airlines and tourism, was hit hard.

The ripple effects of 9/11 on the stock market were a stark reminder of how geopolitical events can have far-reaching and sudden impacts on global financial systems.

Which brings us to today and research by NYU Law’s Robert J. Jackson, Jr. and Joshua Mitts from Columbia Law. These two professors take a look at the financial trading patterns occuring before the October 7, 2023 Hamas attack on Israel.

The professors connect recent findings about informed traders masking their activities in economically linked securities, such as exchange-traded funds (ETFs), with the long-established literature on financial markets’ reactions to military conflicts.

Moreover, a striking observation made in the paper is the significant increase in short selling in the principal Israeli-company ETF just days before the Hamas attack. This pattern of short selling was unusually high compared to other periods of crisis, such as the recession following the financial crisis, the 2014 Israel-Gaza war, and even the global turmoil during the COVID-19 pandemic.

Expanding beyond ETFs, the authors noted a similar surge in short selling in numerous Israeli companies traded on the Tel Aviv Stock Exchange. This trend also became highlighted with a specific instance where 4.43 million new shares sold short in one Israeli company from September 14 to October 5. As a result, led to substantial profits or averted losses. This example underscored a broader pattern observed in the trading of Israeli securities.

Interestingly, the paper points out that this increase in short selling did not become mirrored in Israeli companies listed on U.S. exchanges. However, there was a notable uptick in the trading of high-risk, short-dated options on these companies, with the options expiring shortly after the attack. This specific pattern of trading was unusual and seemed to anticipate the impending attack.

The authors also identified similar trading patterns in the Israeli ETF at times when reports suggested that Hamas was planning attacks similar to the one in October. This consistency in trading behavior around the times of anticipated attacks suggests that traders with foreknowledge of these events were able to profit from the tragic circumstances.

An important contribution of this paper is its highlight of the gaps in U.S. and international enforcement against informed trading. The findings suggest that traders exploit these gaps to gain from foreknowledge of military conflicts. The paper extends the body of knowledge on trading related to geopolitical events and raises important questions for policymakers. It suggests that addressing profitable trading based on information about coming military conflicts should be a priority for policy intervention.

Finally, the paper sets the broader context of the Hamas attack, noting its devastating impact and the ongoing investigations into its financing, including the focus on the use of cryptocurrencies. This context is crucial as it underscores the relative significance of the securities market in understanding the financial dimensions of such geopolitical events.

Overall, this paper presents a comprehensive and detailed analysis of a complex aspect of financial trading, revealing how informed trading before major geopolitical events can have significant implications and offering insights into potential areas for policy and regulatory improvement.

Read the full paper: Trading on Terror? by Robert J. Jackson, Jr., Joshua Mitts :: SSRN

Can Terrorism Affect The Stock Market?