The Relationship between Wars and Different Asset Performances, Including Cryptocurrencies

Throughout history, wars have acted as potent disruptors, shaking the foundations of economies and sending shockwaves through financial markets, profoundly impacting the performance of various asset classes.

During conflict, investor sentiment is often shaped by fears and uncertainties, leading to significant market fluctuations. In this article, we especially focus on how recent wars and geopolitical tensions have affected crypto assets over the past few years.

The Relationship between Wars and Financial Asset Performance

The relationship between wars and asset performance is complex and multifaceted. Traditional assets like equities, bonds, and commodities have well-documented responses to conflicts, characterized by initial volatility followed by sector-specific recoveries.

Generally, the initial reaction to war is typically a flight to safety. Investors, gripped by uncertainty, pull their money out of risky assets like stocks and flock towards havens perceived as stable, such as bonds.

Government bonds, particularly those issued by countries seen as neutral in the conflict, often experience a surge in demand, pushing their yields down. Gold, the timeless symbol of security, also tends to benefit from this risk aversion, with its price typically rising during wartime.

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The stock market's response to war is more nuanced. In the short term, there can be a significant sell-off as investors panic. However, the long-term impact is less clear.

Studies of major wars like World War II and the Korean War show that after the initial volatility, stock markets often recover and even experience growth. This can be attributed to factors like increased government spending, which can stimulate the economy, and the resilience of businesses that adapt to wartime needs.

The Cryptocurrency Response

However, cryptocurrencies add a new layer of response to geopolitical turmoil, offering a digital safe haven and alternative financial system. Crypto, with its inherent volatility and decentralized nature, presents both opportunities and challenges during wartime.

For one, cryptocurrencies' decentralized nature makes them less susceptible to government control and economic sanctions, making them attractive in regions experiencing conflict and economic restrictions.

They have been used to facilitate humanitarian aid, allowing for the efficient and transparent transfer of funds across borders without relying on banking systems that may be disrupted by conflict​.

On the other hand, cryptocurrencies are also known for their high volatility, which can be exacerbated during times of war. While some investors flock to Bitcoin (so-called digital gold), for instance, for security, speculative trading can also lead to significant price swings.

In the following sections, we consider two of the major wars in recent times that are still ongoing—Russia-Ukraine and Israel-Palestine—to understand their impact on crypto performances.

Russia-Ukraine War

Domestic monetary and fiscal challenges hit Ukraine following the Russia invasion of Ukraine in February 2022, forcing the East European country to turn towards more flexible financial aid, in the form of cryptocurrencies.

Similarly, more Russian entities have pivoted their attention towards crypto adoption, in the face of heavy pressures due to international sanctions. Both countries were decent adopters of crypto prior to the war, but the war has accelerated adoption.

According to Chainalysis Crypto Adoption Index reports, Ukraine has remained in the top five globally for the last three years, while Russia jumped into the top 10 in 2022; in the previous year, Russia wasn’t even the top 20.

On the Ukraine side, the country received over $56 million worth of crypto in the first month of the year alone. It received a total of $212 million in crypto by the end of its first year, with nearly 40% of the sum going directly to the Ukrainian government.

So, far, we have looked at the role of crypto in the war. But what do these trends tell us the impact of the war on crypto performances?

Research conducted on the Russia-Ukraine war during the first few months of the war in 2022 showed that the substantial fall in cryptocurrency values in that period can largely be attributed to the heightened attention to the war. In bearish markets, the fear and uncertainty drove investors to liquidate their holdings, leading to significant price drops.

Another suggested a connection between the relative stability of the traditional financial markets during the war period due to two oppossing forces. On one side, investors are cautious due to fears of an unstable business climate, driving them towards the relative safety of traditional markets.

On the other side, speculators are drawn to crypto assets as hedging instruments and safe havens in times of crises. This duality ensures a balance in the market.

Israel-Palestine Conflict

One of the immediate financial effects in the first few days of the latest Israel-Hamas conflict was the fall in prices in global equities markets as well as cryptocurrency. Israel responded by freezing crypto accounts related to Hamas, in collaboration with UK law enforcement.

In any case, while crypto assets are increasingly being used for terrorism and war financing, capacity has increased to trace and track crypto transactions. By identifying wallets belonging to actors connected to war actors such as Hamas, the Palestinian Islamic Jihad (PIJ), etc. the Israeli government was able to block transactions.

While crypto assets showed some resilience during the 2022 Russia-Ukraine war and the 2020 US-Iran tensions, their performances, especially the leading Bitcoin and Ethereum, have been found wanting in the face of the Middle Eastern conflict.

Ultimately, the crypto markets have stabilized as prices rebounded, but there’s still a lot of uncertainty due to current geopolitical tensions. Various war events can shift market sentiment unexpectedly, and it’s difficult to predict what will happen since each war is different.

Wars, Crypto, and Regulatory Concerns

Various Russian groups and actors, both formal and informal, have been using crypto to evade sanctions and fund war efforts. However, these occur at a smaller scale since the crypto market is not mature enough to consolidate losses from sanctions due to the war.

Moreover, such efforts have led to run-ins with the authorities, due to illicit trading and money laundering, as well as association with cyberwar actors, especially ransomware gangs. Crypto exchanges such as Bitzlato, SUEX, Chatex, and the like have been targeted by US authorities and sanctioned.

So far, recent wars have fueled concerns about crypto regulation and how to mitigate the use of crypto for illegal activities such as money laundering in light of the broader global economic impacts.

Conclusion

In conclusion, the jury is still out on crypto's true wartime performance. But this asset class is relatively young, with limited historical data during major conflicts. Additionally, its high volatility raises concerns about its suitability as a safe haven, and it remains to be seen what the trend will be, going forward.