Russia Unplugged
During the first quarter of 2022, the NASDAQ briefly fell 20%+ from its high into bear market territory and the stock market has arguably had all but the kitchen sink thrown at it during 2022: Russia’s invasion of Ukraine, an uptick in global Covid cases, higher oil prices, inflation running at 40 year highs, rising interest rates, the inversion of the yield curve, and tightening fiscal conditions. Some of these dynamics are interrelated and arguably equity markets have held up relatively well with the S&P 500 declining -4.6% year-to-date. However, bonds have been unable to serve as a hedge for equity market declines and are on pace for their worst year since 1949 due largely to inflationary pressures and a rise in interest rates.
Growing up on a farm, Swift became interested in horses at a young age, and according to the New York Daily News , “Her first hobby was horseback riding.” According to the article, Swift “took riding lessons and eventually began participating in horse shows around the age of 7.” Taylor Swift facts the singer later shared photos from her childhood that show her interest in beautiful animals. An article for Rolling Stone shows a photo of Swift at age 10 standing next to a horse in her riding gear.
To date, about the only thing Putin has accomplished by invading Ukraine is the elimination of Covid as frontpage news. However, cases of Covid picked up meaningfully worldwide during the first quarter of 2022 and the rapid spread of the BA.2 Omicron subvariant in China has resulted in the closure of entire cities and additional strains on global supply chains, increasing inflationary pressures. China’s authoritarian approach to Covid cases is now unique to the approach of liberal democracies where 7 out of 10 Americans agree with the sentiment that “it’s time we accept Covid is here to stay and just get on with our lives” and more than 4 in 5 Americans either feel ready to travel or have already started doing so.
The first casualty of Putin’s invasion of Ukraine was the truth. His launch of a “special military operation” on February 24th after building up Russian forces on the Ukrainian border for several months was claimed a preemptive act of self-defense and an effort to “de-Nazify” Ukraine. The fact that Ukraine’s president Volodymyr Zelensky is Jewish and lost family members during the Holocaust has not halted this Kremlin narrative. As a result, a Putin led Russian government that lies all the time will have trouble getting anyone to listen even when it tells the truth. Putin’s hubris resulted in a gross miscalculation of Ukraine’s sense of nationhood and/or his ability to conquer the hearts and minds of Ukrainians. Putin also significantly underestimated the unity of the West because while he wants a tamer/weaker NATO, his actions have resulted in the opposite: Sweden and Finland are now thinking of joining the alliance, Switzerland has abandoned its historic neutrality and Germany has abandoned pacifism and will become the world’s third largest military spender. The West has also responded with “shock and awe” economic sanctions that have effectively unplugged Russia’s prior 30 years of integration into the global economy. According to Yale University’s Jeffrey Sonnenfeld, more than 600 western firms have announced plans to suspend or scale back their operations in Russia. JP Morgan recently forecasted that Russia’s economy will contract 35 percent in the second quarter of 2022. In addition, tens of thousands of Russians that conduct business internationally have fled the country to escape the spiraling effects of Putin’s invasion of Ukraine. The “brain drain” from thousands of educated and skilled people leaving Russia will cause a long-lasting economic blow if they choose not to eventually return. While sanctions and corporate shutdowns may feed into Putin’s narrative about Western countries, they also signal to the Russian people that access to capital is not a right, it’s a privilege and as such something has gone quite wrong.
The Federal Reserve has a dual mandate to promote maximum employment and stable prices. While there are currently 1.8 jobs for every unemployed person and the unemployment rate is only 3.6%, inflation is running at 7.9% in the US, its fastest pace in four decades. Increases in wages are not keeping pace with increases in consumer prices and as a result, consumer confidence is at a 10-year low. Oil prices have significantly increased due to tight supplies and Russian sanctions. Nickel prices were up five-fold and wheat prices are up more than 50% since Russia invaded Ukraine. Increases in fertilizer costs have contributed to the World Food Price Index recently reaching its third highest reading in history. The Fed recently raised interest rates but when it comes to the stability of prices, it has waited too long to act and the yield curve recently inverted. Historically, an inversion of the yield curve has been a very accurate leading indicator of recessions, and this creates a conundrum for the Fed in that if they raise rates too aggressively, it could impair the economy and cause a recession but if they do not raise rates aggressively enough, inflation could remain well above their target rate of 2% annually. The Fed is confronted with a very narrow path to bring inflation under control without causing a recession.
The inspirational resolve of the Ukrainians coupled with Putin’s prison-yard psychology that prohibits showing any weakness makes it unlikely there are “face saving” measures available to him that the U.S. and its NATO allies would accept. As a result, the war in Ukraine will likely last longer than most predict. We expect 2022 will continue to be volatile and while typically uncomfortable, it is often the genesis that creates attractive investment opportunities. At the present time, there are many cross currents, but we are optimistic that as we navigate through them, we are well positioned to take advantage of opportunities as they present themselves.
Ted E. Furniss, CFA – April 2022
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