Geopolitical Risk on Stock Returns: Evidence from Inter-Korea Geopolitics

Geopolitical Risk on Stock Returns: Evidence from Inter-Korea Geopolitics
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Volume/Issue: Volume 2021 Issue 251
Publication date: October 2021
ISBN: 9781557759672
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Topics covered in this book

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Finance , Economics- Macroeconomics , Economics / General , International - Economics , Geopolitical risk , Textual analysis , Stock returns , Inter-Korean relations , , GPRNK index , stock return , firms' stock , GPRNK trend , search keyword , growth outlook , Stocks , Economic cooperation , Stock markets , Asset prices , Global

Summary

We investigate how corporate stock returns respond to geopolitical risk in the case of South Korea, which has experienced large and unpredictable geopolitical swings that originate from North Korea. To do so, a monthly index of geopolitical risk from North Korea (the GPRNK index) is constructed using automated keyword searches in South Korean media. The GPRNK index, designed to capture both upside and downside risk, corroborates that geopolitical risk sharply increases with the occurrence of nuclear tests, missile launches, or military confrontations, and decreases significantly around the times of summit meetings or multilateral talks. Using firm-level data, we find that heightened geopolitical risk reduces stock returns, and that the reductions in stock returns are greater especially for large firms, firms with a higher share of domestic investors, and for firms with a higher ratio of fixed assets to total assets. These results suggest that international portfolio diversification and investment irreversibility are important channels through which geopolitical risk affects stock returns.