Good morning contrarians!
(This episode was published Tuesday morning, Feb. 22 and is free for all to read and share. If you enjoy it consider subscribing at the link below)
Russia-Ukraine is approaching a boiling point. The latest has the Kremlin ordering troops into the two breakaway republics that are inside Ukraine’s (still existing) border. This as western leaders’ offer of a meeting with the Russian president is apparently still on the table. Allthewhile we continue to get reports that a full-scale invasion is set to get started in a matter of days.
It’s an ugly situation that has understandably preoccupied markets for the better part of a week now. But there are reasons to believe this conflict will be contained to the two countries and the long-term market impact ultimately limited.
Russia-Ukraine Impact
We have seen markets turn into what might be called a geopolitical risk/off. Unlike systemic risk-off that we saw in 2008 and 2020, this causes more of a divergence: Energy prices go up, bonds rally, tech stocks and other growth assets drop, and gold and precious metals rise. Stocks of defense contractors and certain consumer staples have also turned higher this past week.
So in a certain sense we already know what is going to happen, which is more of what we’ve been seeing. But assets like gold and defense contractors are rising under an assumption of wider geopolitical impact. We may still get that. Hopefully we won’t, but we might.
Assuming no western military (much less NATO) comes to the aid of Ukraine, and it becomes clear this will be a contained conflict like Russia’s 2008 invasion of Georgia or 2014 annexation of Crimea, one can expect precious metals and defense contractor stocks to halt their advance. The same for bonds, seeing how interest rates (remember them?) are still due to start rising.
Beyond that, it’s important to separate the geopolitical risk off we’ve been seeing for a couple of weeks from the growth-to-value shift that have marked the last several months. If there is a peaceful settlement to Russia-Ukraine, it’s not inconceivable we could get a broader relief rally. That may even take tech with it.
It goes without saying that if a full-scale invasion proceeds, there will be sanctions on Russia that will be very bad for any Russian asset. Russian ADRs could get delisted and the country could be excluded from international capital markets, which would have a disastrous effect on the country’s economy.
What if this thing turns into a wider geopolitical conflict involving NATO and potentially China? Then all bets are off and we’ll have much bigger concerns. In fact we probably won’t think about markets at all at that point.
The post-World War II international order has seen its share of challenges these last 75 years. In the end, conflicts were either contained or diplomacy saved the day. It’s hard to see how a spat between Russia and Ukraine, no matter how distasteful and destructive, will be the thing that ends this.
Russia-Ukraine: Assessing the Impact on Markets