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How will the Russian invasion of Ukraine affect the equity markets?

Published by: Lucien Paulemil
April 2, 2022 3:28 am

The Russian invasion of Ukraine is causing short-term turbulence
but the markets’ long-term outlook remains unchanged.

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Vladimir Putin’s decision to invade Ukraine caught the world surprised.

While major stock markets are tumbling, safe-haven securities such as commodities, gold, and U.S. Treasury debt are rising amidst a backdrop of severe inflation.

Clearly, the Western world is facing its most severe crises since WWII.

Should investors panic? How will the Russian invasion of Ukraine impact the equity markets?

Here is a 6 point breakdown of how the situation will affect the markets and how you should react.

Prepare for short-term market volatility

Unfortunately, regional conflicts and wars are natural occurrences. Since 1990, there have been more than 75 armed conflicts worldwide.

The global community is always shocked when a new conflict breaks out. As expected, markets dropped sharply when Russian President Vladimir Putin announced that he was launching a full-scale invasion of Ukraine.

However, Putin didn’t anticipate such swift and coordinated international condemnation of his brutal invasion. So far, markets are responding relatively well to the economic sanctions, and major indices are trying to rally. All they want is an indication that the conflict will come to a peaceful resolution.

Until then, uncertainty, and volatility will continue to drive short-term momentum. However, history suggests that this fear will be short-lived. In fact, markets often trend upwards despite escalating conflicts.

No doubt, events in Ukraine are alarming and will continue to negatively impact investor sentiment in the short term. However, hopefully, over time peace will be restored, and the post pandemic recovery can take center stage again.

Skyrocketing commodity prices

The West’s strict sanctions against Russia are having a profound effect on commodity prices. Russia is one of the world’s leading oil and gas producers, and restricting access to their product is straining global supply chains.

 At writing, oil prices hovers around $110, the highest level since 2014, and the upward trend is not showing any signs of slowing down. Some analysts claim oil prices could hit $130 in the coming weeks

But oil is not the only commodity whose price is surging:

  • Natural gas prices are up 70% YOY.
  • Heating Oil prices are up 90% YOY.
  • Coal prices are up 357% YOY.
  • Uranium prices are up 80% YOY.
  • TTF Gas prices are up 1,014% YOY.
  • UK Gas prices are up 944% YOY.
  • Aluminium prices are up 67% YOY.

Tin prices are up 87% YOY.

Source

If the conflict persists and sanctions become permanent, investors should seriously consider investing in commodities to take advantage of ever-surging prices.

Tightening monetary policy takes center stage

While the Russia-Ukraine conflict justifies immediate concern, investors are actually paying more attention to the Federal Reserve’s announcements regarding the expected tightening of its monetary policy.

If interest rates increase, inflation may cool as supply chains normalize, consumer demand returns to pre-pandemic levels and oil prices ease.

This week, Federal Reserve Chair Jerome Powell proposed a 25 basis point interest rate increase, and bond yields are beginning to rally.

What will interest rate increases mean going forward?

The very modest rate increase is reassuring investors that the Fed is careful to avoid sparking a recession. The progressive pace of rate hikes will allow economic agents to prepare accordingly. If all goes well, the markets should rally.

The return of economic fundamentals

Despite the doom and gloom, economic fundamentals and corporate earnings remain healthy. Regardless of where we are in the market cycle, it’s important to take a disciplined approach to investing and stay focused on your long-term financial goals.

That said, it appears the two previous years’ euphoria is wearing off. Speculative tech stocks’ prices have dropped sharply and commodities, such as oil, coal and wheat, are skyrocketing.

With bond yields rising, investors are unwilling to take on excessive risks.

For now, the rotation into value appears sensible and investors should focus on solid equities with proven cash flows and growth prospects, dividend-paying securities that will benefit from inflationary trends and short-duration bond funds with the potential to deliver modest but safe returns.

Avoid Russian assets

Investors should steer clear of Russian assets for the time being.

The ruble has hit 30-year lows, Russian ETFs hit record lows and continue to plunge, and major Russian stocks such as RosneftGazprom and Sberbank are down 40%+ from their recent highs.

Will they recover? Possibly, but at present the risks far outweigh the potential rewards.

How should investors react?

Analysts are recommending investors maintain a diversified mix of asset classes in your portfolio to maximize potential returns and minimize risk. Regularly reviewing and rebalancing your portfolio also helps you remain on track.

We must remember this is a regional conflict between two nations who have little impact on global financial markets. Yes, the price of oil will shoot up drastically, but very few funds have meaningful exposure to Russian assets.

In fact, once the situation settles, markets will turn their focus to macroeconomic issues of greater importance, such as post-pandemic economic growth, rising inflation and interest rate hikes.

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