Weekly Market Update: Putin in the Lead Role – 02/23/2022 at 7:25 am

A work of street art with the likeness of Vladimir Putin, on the streets of New York.  (Photo credit: Pim GMX / Creative Commons)

A work of street art with the likeness of Vladimir Putin, on the streets of New York. (Photo credit: Pim GMX / Creative Commons)

The three points to remember this week

  • War or not war? This is the question in Europe and in the financial markets

  • Central banks: they are guilty if we expect a lot from them

  • The restart after the pandemic takes a back seat

Today the whole world is wondering what is going on in the head of the Russian president. Is he the coldly calculating former KGB agent or rather the next politician determined to add the provocation of a new great war to history?

The fact that a conquest of Ukraine or even part of Ukraine would most likely have negative consequences for Russia (and Putin must be aware of this) argues in favor of the former. In this case, the threat of over 150,000 troops on the Ukrainian border, unprecedented in Europe since the Cold War, would truly be just a macabre game.

However, several elements unfortunately support the second hypothesis. We think in particular of the age of the Russian president and the perception he has of himself: he will be 70 years old and considers himself the only one capable of correcting what he believes is a historical error since the end of the Soviet Union. There is also probably an impression, on his part, of Western weakness, coupled with a dangerous resistance to the advice of others: after 22 years of unchallenged rule, it is unlikely that anyone will still say something to Putin that he does not want to hear.

A market that oscillates between hope and fear

For financial market participants, the answer to this question affects many things, and perhaps even performance over the entire year. The market therefore oscillates between hope and fear. In recent days, in fact, the signs of a real risk of war (continuation of Russian “maneuvers” in Belarus, in the Black Sea and in the border region near the Donbass, as well as the evacuation of the local population of Russian origin) have faced tender signs of détente (possible renunciation of NATO for Ukraine or even possible summit on the Putin / Biden crisis). The danger is far from over.

Investors are still looking for safe havens and the price of oil has hit the $ 100 mark. If a war really does break out, a significant positioning on less risky assets should take shape. High-value risky assets would first be threatened, then, through a sharp rise in energy prices and possible negative effects on world trade, economic growth would be threatened, resulting in a general weakening of corporate results. In this scenario, bonds should outperform most forecasts.

It is also particularly difficult to distinguish between a limited conflict (US President Biden coined the term “minor raid” for this purpose) such as the annexation of the Donbass, and a general invasion. In any case, an escalation in the Donbass would probably be the first step, and no one could say whether Russia would leave it like this or advance towards Kiev. The difficulty of distinguishing between such far-reaching scenarios should mark markets for weeks, if not months.

Central banks have their brushes tangled

The threat of war in Europe adds to an already difficult situation for investors, namely the announced withdrawal of central bank support. This results in an unusual situation for many, as central banks have always been, at least since the financial crisis, the decisive player in the markets. However, the Fed, ECB and others are rightly observing that the economy is recovering from the pandemic and that the massive stimulus of the past two years is no longer needed.

Unfortunately, central banks are scattered in their communication, because at the same time they give, and this time wrongly, the impression of wanting and having to fight against high inflation. If this is indeed their plan, they can only fail, because supply-side inflation can only be achieved at the cost of considerable demand adjustment expenditure. By attempting to limit a possibly temporary price momentum, we could then quickly brake too hard and unnecessarily cause a recession. If central banks were to continue to be troubled by inflationary rhetoric, this would be further worrying signs. It would be preferable for central banks to report that an excessive inflow of money is no longer appropriate given the foreseeable end of the pandemic, but that this in no way means a drastic tightening of financing conditions.

Economic indicators are on the agenda again this week. The Purchasing Managers Index should provide further evidence of a rapprochement with the pre-crisis trend, while in the United States the Fed’s preferred measure of inflation (Core PCE) could signal the overcoming of the maximum price dynamics. At the same time, the current fourth quarter earnings season provides proof of business success. However, it’s not so much the good news of reboot and normality that currently dominate the leaderboard. Rather, the direction of the coming months is dictated by the fact that central banks are regaining interpretative power over interest rates and inflation and speculation about what is going through the mind of the Kremlin ruler.

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