The week that was

After repeated warnings from Western intelligence, which most geopolitical experts were skeptical of, Putin invaded Ukraine. Markets fell sharply, especially in the US, but later rebounded and ended the week flat (or up by 2% in the case of the US). So overall you would have to say that markets have taken this in stride, especially compared to the much stronger reaction to persistent inflation last month. So, despite Putin talking about nuclear weapons over the weekend Asian markets have opened up flat (although US futures are down more than 2%). The best explanation we have come across for the markets’ (relatively) sanguine attitude is the growing list of financial sanctions and in particular suspension of access to the SWIFT payments system and blocking of reserves held by foreign central banks. This may seem counterintuitive but assuming this was not part of Putin’s calculus then perhaps there are grounds for some optimism. The latter measure in particular will severely inhibit the Bank of Russia’s ability to defend an imploding currency (down another 30% at the time of writing). Both measures combined raise the prospect of a bank run and the central bank being forced to print money with the hyper-inflationary consequences that Venezuela recently suffered from. So, while newspapers, Twitter and Tik Tok are overwhelming us with the shocking images of a physical war the market eye may have moved to the financial war which is just starting and where Putin already looks less assured. There is a suggestion that this, along with stiff Ukranian resistance, may already have brought Putin to the negotiating table.  For now payments for commodities are still functioning so the downside is heavily biased against Russia. That final step of financial exclusion would be even more devastating for Russia but would also create a significant stagflationary shock for the global economy.

At a stock level there were few clear trends with losses from Apple and Tesla being offset by better performances from Microsoft, Amazon and Google. Similarly, value and growth stocks achieved comparable results and most sectors made it back into positive territory. Having gained 30% so far this year even Energy stocks were somewhat restrained given the geopolitical backdrop. The UK and Australian markets continued to look less volatile than continental Europe while emerging markets also lagged the rest of the world. Gold was once again the best performing asset during the week.

Australia has now almost finished what turned out be a fairly robust reporting season where 3 in 4 companies beat earnings estimates and both revenue and earnings have risen by about 8% compared to a year earlier. Notably positive results last week included Block (who bought Afterpay) Cochlear and Woolworths while Dominos and Appen disappointed and both were marked down by around 20%.  Guidance was overall quite cautious, Australian companies have amassed record amounts of cash, now amounting to $250bn amongst the 200 largest companies. Prior to COVID that number was consistently around $100bn and it has risen steadily since February 2020, mirroring the much improved balance sheets of local consumers following unprecedented government stimulus. By the end of the week the uncertainty surrounding Ukraine had the biggest impact on the dominant local banks and materials companies, and having missed out on the Friday rally the local market was down more than 2% for the week.   That means that February will most likely end with global markets down a few percent and Australia, along with the UK, having remained roughly flat. Gold has been the best performing asset class in February, up by 5% so far.

Long term bond rates traded in a range last week having risen strongly earlier in the month and especially in Europe. Credit spreads continued to ease with some early signs of slight stress in the European high yield market and some emerging markets.  Luckily though most Western investors have steered  clear of Russian equities and bonds for some time and hopefully any financial bombs going of there will not have the contagious effects that they had in 1998.