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BlackRock (BLK) is the world's largest publicly traded investment management firm. As of September 30, 2016, it had assets under management, or AUM, of $5.1 trillion. This is ~7% of the total assets under management across the globe.

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BlackRock geopolitical risk dashboard

Introduction and highlights
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Notes:

Background

Escalation triggers

Potential market implications

Market impact of risks
Source: BlackRock Investment Institute, with data from Thomson Reuters.
Notes: The chart shows our estimates of the potential market impact on the MSCI ACWI Index, the grey bar shows our original estimate, whereas the blue and orange bars show the adjusted impact based on the level of the BGRI. For example, an elevated BGRI level for a risk would suggest increased investor attention and therefore a lower BGRI-adjusted market impact. The market impact estimates are based on analysis from BlackRock’s Risk and Quantitative Analysis group. See the How it works section and the 2018 paper Market Driven Scenarios: An Approach for Plausible Scenario Construction for details. 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 original estimate for {{chosenRisk.name}} is based on the scenario analysis run on {{chosenRisk.scenarioDate}}.
Relative likelihood and market impact of risks

Focus risk
{{chosenRisk.name}}
BlackRock Geopolitical Risk Indicator

Risk scenario description:

Our view:

Notes:

Background

Key recent developments

Escalation triggers

Potential market implications

Market impact of risks
Source: BlackRock Investment Institute, with data from Thomson Reuters.
Notes: The chart shows our estimates of the potential market impact on the MSCI ACWI Index. The grey bar shows our original estimate, whereas the blue and orange bars show the adjusted impact based on the level of the BGRI. For example, an elevated BGRI level for a risk would suggest increased investor attention and therefore a lower BGRI-adjusted market impact. The market impact estimates are based on analysis from BlackRock’s Risk and Quantitative Analysis group. See the How it works section and the 2018 paper Market Driven Scenarios: An Approach for Plausible Scenario Construction for details. 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 original estimate for {{chosenRisk.name}} is based on the scenario analysis run on {{chosenRisk.scenarioDate}}.
Global trade tensions

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We outline three possible outcomes of rising global trade tensions:

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    Our base case: Continued global trade tensions, but with all sides focused on China. The USMCA replaces NAFTA, and Section 232 tariffs on auto imports are avoided. The U.S. maintains its offensive against China’s industrial policy with a focus on the “Made in China 2025” initiative, leveraging Section 301 to inflict harsh penalties. Chinese retaliation in the form of tariffs — including a higher tariff rate on a smaller number of goods — and non-tariff measures — such as denying licenses and visas or implementing quotas — likely follows. The ratcheting up of tensions between the U.S. and China hurts global risk assets (see U.S.-China relations). Elevated trade tensions weigh on business confidence but not to an extent that reduces investment sufficiently to threaten the global growth outlook.
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    A market-negative scenario: The U.S. imposes sweeping trade-related tariffs and non-tariff barriers against China as talks break down. U.S. allies, including the EU, Mexico and Canada, get caught in the cross-fire. China files claims against the U.S. at the WTO; legislative prospects for the USMCA dim and the U.S. eyes withdrawal; and Trump announces plans to overhaul trade agreements globally and threatens withdrawal from the WTO, further undermining the stability of the global trading system. Business sentiment is hit hard, with lower investment weighing on global growth.
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    A market-positive scenario: Deals are struck on multiple fronts and include: the new USMCA; a deal with the EU to avoid Section 232 tariffs on autos; steel and aluminum tariff exemptions for the EU, Canada and Mexico; and an agreement among U.S. and Chinese leaders to reduce the trade deficit. Technology competition with China lingers as a structural issue to be addressed, though talks among senior U.S. and Chinese officials proceed constructively, averting further escalation.
View our previous focus risk
July focus risk
European fragmentation (comments as of July 2018)

Our European fragmentation risk has ticked up after a new euroskeptic government took power in Italy. The risk has the potential to rattle markets. Its BGRI reading is only slightly above its historical average, but up almost one standard deviation so far this year.

We believe the formation of a left-right populist government in Italy marks an upward shift in European political risk. A populist, euroskeptic government in the heart of Europe has re-opened the path toward a full or partial breakup of the eurozone. We see the likelihood of a breakup as low, but signals in that direction could cause European assets to swoon. Prospects for further European integration also appear dim in the near term, largely due to northern member states’ resistance to increased risk-sharing. Germany has shown more openness to the idea, but others still have cold feet. Tensions over migrants have also moved back into sharp focus. We expect greater division within the EU over both economic and foreign policies as a result. Highlights:

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    The Italian government coalition is heterogeneous and untested. It heralds a confrontational stance with the EU – even as the final coalition agreement toned down the populist rhetoric contained in an earlier leaked draft. The Italian situation, if mishandled, could pose an existential threat to the eurozone, though we see the risk as low in the short term. We will be watching the government’s program very closely for steps that could trigger rating agency downgrades of Italy’s government debt, particularly a partial unwind of pension reforms. The submission of the next Italian budget to the European Commission by mid-October has the potential to exacerbate tensions and trigger a deterioration in the relationship between Rome and Brussels.

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    Momentum for European economic integration had been slowing well before the Italian election. The reluctance of northern member states to shift from their longstanding opposition to further integration without first seeing major risk reduction in the financial sector has created a significant roadblock. German Chancellor Angela Merkel and French President Emmanuel Macron reached agreement on a common position on a wide range of topics across immigration and foreign policy at a June Franco-German summit.

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    European leaders in late June reached a stop-gap agreement on migrants that points to a more united European approach to tackling immigration – and should significantly soothe political tensions with Italy and within the German coalition. Reform of the European Monetary Union was pushed out to later in the year, with finance ministers set to continue discussions through December. A positive development for integration was a clear endorsement to work on a roadmap for starting political discussions on common deposit insurance (EDIS). The summit overall avoided an acrimonious break of political cohesion, but made little concrete progress on integration.

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    One factor that may drive core Europe closer together: U.S. President Donald Trump’s hostility toward the EU and global trade. Yet Trump has made common cause with those who would like to see a less integrated EU. This has brought home the message in Germany that its national interest lies in a strong Europe. The German auto industry is particularly exposed to rising trade tensions. Trump has publicly threatened to impose tariffs on autos imported from the EU, and the outcome of the Section 232 investigation into whether auto imports threaten U.S. national security looms large.

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    Fears that the UK crashes out of the EU may resurrect themselves. The most likely scenario is still that the UK heads into a protracted period of transition. The ball is now in the UK’s court, and the country has started to shift on some “red lines” to try to solve issues around its land border with EU member Ireland. The UK and the EU27 likely remain too far apart, however, to make material progress in the near term. Rising authoritarian tendencies in Eastern Europe also tug at the seams of European unity.

Political uncertainty points to a sustained increase in European risk premia:

  • Elevated and persistent political uncertainty justifies a structural discount on European equities, in our view. We expect bank stocks to be more sensitive to political headlines than other sectors. Investors were already expressing reservations toward the sector well before the Italian election because of structural impairments to European banking business models.
  • Investor sentiment toward European equities has been declining, with steady outflows from the asset class. Earnings momentum in Europe has also lagged other regions in 2018. It’s too early to assess the full economic impact of recent developments, but looming risks threaten to slow regional economic activity and investment, further weighing on earnings expectations for European companies.
  • The European Central Bank (ECB) in June announced that it would end net asset purchases this year, capitalizing on a window of opportunity to act independent of the situation in Italy. Notably, markets focused on the ECB’s indication that it will not lift rates until the third quarter of 2019, viewing such a specific timeline as dovish. The ECB will keep reinvesting the proceeds of maturing bonds, thereby maintaining a significant presence in the market. The announcement triggered the largest single-day euro depreciation versus the U.S. dollar in more than two years.
  • Looming risks look set to keep credit and sovereign spreads elevated in Italy and peripheral Europe. Yet even after recent spread widening, the all-in yields available on peripheral bonds offer investors scant compensation for the associated volatility, in our view. European corporate debt is looking more attractive for euro-based investors after a recent selloff.
How it works

The BlackRock Geopolitical Risk Indicator (BGRI) continuously tracks the relative frequency of analyst reports, financial news stories and tweets associated with geopolitical risks. We have used the Thomson Reuters Broker Report and the Dow Jones Global Newswire databases as sources, and recently added the one million most popular tweets each week from Twitter-verified accounts. We calculate the frequency of words that relate to geopolitical risk, adjust for positive and negative sentiment in the text of articles or tweets, and then assign a score. We assign a much heavier weight to brokerage reports than to the other data sources because we want to measure the market’s attention to any particular risk, not the public’s.

The BGRI is primarily a market attention indicator, gauging to what extent market-related content is focused on geopolitical risk. The higher the index, the more financial analysts and media are referring to geopolitics.

We also take into account whether the market focus is couched in relative positive or negative sentiment. For example, market attention on geopolitical risks was extremely high during the Arab Spring of 2011. Much of the attention was focused on the potentially positive effects of the regime changes, however. The adjustment for this positive sentiment mitigated the Arab Spring’s impact on the BGRI’s level. Sentiment adjustment also helps us avoid overstating geopolitical risk when risks actually are being resolved.

Here’s the step-by-step process:

  1. BGRI attention: This is the market attention score. The global BGRI uses words selected to denote broad geopolitical risks. Local BGRIs identify an anchor phrase specific to the risk (e.g., North Korea) and related words (e.g., missile, test). A cross-functional group of portfolio managers, geopolitical experts and risk managers agrees on key words for each risk and validates the resulting historical moves in the relevant BGRI. The group reviews the key words regularly.
  2. BGRI sentiment: This is the sentiment score. We use a proprietary dictionary of about 150 “positive sentiment” words and 150 “negative sentiment” words. We use a weighted moving average that puts more emphasis on recent documents.
  3. BGRI total score: This is BGRI attention — (0.2 * BGRI sentiment). We want the indicator to fundamentally measure market attention, so we put a much greater weight on the attention score. A 20% weight of the sentiment score can mitigate spikes at times when risk may actually be receding.
  4. Meaning of the score: A zero score represents the average BGRI level over its history from 2003 up to that point in time. A score of one means the BGRI level is one standard deviation above the average. We weigh recent readings more heavily in calculating the average.

Risk likelihood and impact chart

The risk likelihood and impact chart shows our assessment of the relative likelihood of our top-10 risks and the potential severity of their market impact. Our geopolitical experts identify potential escalation triggers for each risk and then assess the most likely manifestation of the risk over the next six months. The relative likelihood of each event (vertical axis) is then measured relative to the remaining risks. For example, we currently rate {{chosenRisk.name}} as having a relatively high likelihood, whereas we see {{chosenRisk.name}} at the lower end of the scale. The severity of market impact (horizontal axis) is based on Market-Driven Scenarios (MDS) analysis from our Risk and Quantitative Analysis group and estimates the one-month impact of each risk on global equities (as measured by the MSCI ACWI) if it were to come to pass. For example, we currently see {{chosenRisk.name}} having among the highest potential market impact, whereas we expect the market effects of {{chosenRisk.name}} to rank at the bottom. Colored lines and dots show whether BlackRock’s Geopolitical Risk Steering Committee has increased (red) or decreased (green) the relative likelihood of any of the risks from our previous update. The chart is meant for illustrative purposes only.

Market impact – overall

Our MDS framework forms the basis for our scenarios and estimates of the one-month impact on global equities. The first step is 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. Yet historical data are not the only input to our analysis. 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 further details. The BGRI’s risk scenario is for illustrative purposes only and does not reflect all possible outcomes as geopolitical risks are ever-evolving.

Market impact – BGRI-adjusted

We enhance our market impact analysis outlined above by adjusting the market impact scores to reflect shifting market attention over time. When scenarios are first defined, market shocks are calibrated to reflect what is not already priced in to the market by investors. We call this the original estimate.

As market attention fluctuates, the BGRI-adjusted market impact either increases or decreases in severity based on how market attention evolves. For example, an elevated BGRI level relative to the point at which a scenario is first defined would suggest an increase in investor attention. This would result in a less severe BGRI-adjusted market impact relative to our original estimate. The converse result — in the case of a depressed BGRI level — would also hold. We determine a factor that scales the size of the BGRI move since the date of our original market impact estimate to calculate the BGRI-adjusted market impact. We use a sigmoid function to do so, or a statistical technique that is characterized by an S-shaped curve. We then multiply our original estimate of the market impact by (1 – scaling factor) to reach the BGRI-adjusted market impact score.