How do your investments sit due to the events in Ukraine?
"There are decades where nothing happens; and there are weeks where decades happen"
-Vladimir Ilyich Lenin.
It appears to have been a week where decades happen. It is perhaps appropriate to quote Lenin when Vladimir Putin blamed Lenin for the separation of Ukraine from Russia. The announcement of a full-scale military invasion of Ukraine will not only see lives lost from both sides but will also have vast implications on the rest of the world. Financial markets have been volatile with oil and gas prices spiking higher. Colossal sanctions have been imposed on Russia, but they are unlikely to halt the attacks any time soon.
The two nations are closely linked both geographically and historically. The dividing line goes down the Dnieper River that flows south from Belarus through Kyiv before turning west to enter the Black Sea northwest of the Crimea. The two nations have been embroiled in disagreement over the division since the dissolution of the USSR. In 2014, the pro-Russian president was overthrown, and a pro EU and NATO government installed. Consequently, Crimea declared independence and was annexed by Russia. Ukraine’s eagerness to join NATO was the spark that ignited the tensions last week.
The Russian forces first invaded the areas held by pro-Russian rebels in Luhansk and Donetsk. Initially focusing on military installations, clearly Putin’s intention is to install a pro Russia government and restore the soviet sphere of influence.
How have the Markets reacted?
So far this year, the main concern of most was rising inflation and interest rates, this was followed by big moves on individual stocks that generally supported the market. Rising energy prices have benefitted energy stocks while the banks have been boosted by the prospect of higher interest rates.
Following on from tensions boiling over in eastern Europe, the initial reaction from most was to sell of sharply. As things have progressed, the US market recovered and began to outperform. Most European markets had dropped over 3% but it appears the markets have seen some stability emerge. It appears too there was an element of ‘sell the rumour and buy the fact’ but there may also have seen some switching out of Europe into US in the basis that Europe could be hit particularly hard if oil and gas is cut off from Russia.
The Sanctions
Last week the world came together to not only publicly shame the Russians for their actions, but also to enforce sanctions on Russia. Whilst these sanctions are substantial, they are unlikely to have any real consequences on the ongoing Russian invasion. The reliance on Russian Oil and Gas makes these sanctions hard to enforce, with both Germany and the US reluctant to put in place strict sanctions as a result. Brent Crude which had risen to $105 fell back below $100.
President Biden announced the sanctions as ‘crushing’, however, many are calling for stricter rules to be enforced. The sanctions, while harsh, are unlikely to have any real effect on the Russian economy, yet. Further sanctions may emerge, but at this point, they seem unlikely to impact the Russian aggressions.
In order to try and understand the implications moving forward we often have to look backwards. Having looked at the Cuban Missile crisis of 1962 for US/Russia tensions, as well as the Iraq invasion of Kuwait for oil supply disruption to try and put this into historic context, there is nothing that compares directly, these times are unprecedented.
The Cuban Missile crisis took place between 16th October and 20th November. After a sustained rally through the 50s, the S&P peaked in 1961 then corrected 27% in what was known as the Kennedy slide, bottoming in June, it started to recover 14%. It declined again but only fell 6% in the early days of the crisis before bouncing back. By September 1963, it was making a new high passing the 1961 peak. The market was helped by JFK who agreed to tax cuts and reduced margin requirements.
The Invasion of Kuwait came on the 2nd August 1990 and over the following weeks, the oil price rose over 80% and the S&P fell 17%. The S&P gradually recovered only dropping a little ahead of ‘Operation Desert Storm’ which, when successful, saw the oil price fall back and the S&P recover. By the end of 1991, it was 17% above the level pre the invasion. This rally took place despite a recession in the US from July 1990 to March 1991. Interest rates were cut from 8% to 4% to fight the recession.
Despite some similarities, the circumstances surround Russia’s invasion of Ukraine are very different. If there are lessons to be learnt from history, mid crisis is the time to buy, when it looked bleakest. If you traded out, you probably would have congratulated yourself but would probably not have bought back until the market had bounced.
Ukraine, whilst not being the largest of economies, is known as ‘the breadbasket of Europe’. It is a significant provider of grains and crops, if the harvest this year is lost or depleted significantly there will be a knock-on effect on food prices the world over.
The main concern for now is the unknown and what is yet to come. If energy was to get cut off, the already sky-high prices would further inflate. The US and other countries may release strategic reserves but that will only be a temporary solution. The coming of spring and warmer weather may help to slightly alleviate this issue. However, this would only be a short term fix. The high cost of food and energy may not only keep inflation high, but may also restrict growth, leaving central banks with the dilemma of raising interest rates to maintain purchasing power, or hold off to support the economy.
Conclusion
The equity markets that were previously attractive have taken a plunge, particularly growth and tech stocks. Given the speed and nature of the changes, it is hard to predict daily moves. Corrections like this are reminders of the risk in equity investments but the long-term returns remain attractive. Those with cash waiting for investment or those in the process of gradually investing, should continue to average into the market.