This post was originally published on this site
Russia’s invasion of Ukraine may lead to more sustained pressure on the U.S. stock market than investors may be betting on, warns Marko Papic, chief strategist at alternative asset manager Clocktower Group, who sees inflationary parallels to the Yom Kippur war in 1973.
When U.S. stocks rose late last week despite the war in Ukraine, investors seemed to embrace the adage, “you buy at the sound of cannons,” Papic said in a phone interview. But he worries that Russia’s invasion of Ukraine risks pressuring the S&P 500 index for longer than the market might expect, partly because of its location.
Ukraine is a large country on the border of Europe, situated close to members of the North Atlantic Treaty Organization, said Papic. Any complicated military operations close to NATO member states run the risk of sparking a broader conflict, he said.
What happens if, say, a Russian military plane veers into Poland’s airspace and is shot down? speculated Papic. “We could have a lot of events that are very, very volatile.”
See: Russia’s Lavrov reportedly says third world war would be ‘nuclear and destructive’
Also, Russia’s attack on Ukraine risks “meaningfully” adding inflation to the surge in the cost of living that the Federal Reserve already was aiming to tame in the U.S., through rate hikes expected to start as soon as this month, he said. The conflict in some ways is similar to the Yom Kippur war in 1973, an event that stands out for creating “sustainable downside risk to U.S. equities,” according to Papic.
Parallels between the two geopolitical crises include the addition of inflation to an already inflationary environment, he said. Papic pointed to the Organization of the Petroleum Exporting Countries retaliating against the U.S. for its support of Israel after it was attacked by Arab states by imposing an oil embargo in 1973-1974. The shock sent oil prices soaring.
“That adds inflation at the worst time,” said Papic.
CLOCKTOWER GROUP
Oil prices
CL.1,
CLJ22,
surged to more than $110 a barrel in futures trading Wednesday, amid concern about the potential for supply disruptions tied to Russia’s intensifying attack on Ukraine.
Russia’s invasion of Ukraine could add inflation in some other “pretty complicated ways,” according to Papic, who said he is focused on palladium, potash and wheat as Russia is a significant producer of all three. Ukraine also is a large wheat producer, he said.
The price of a bushel of wheat
W00,
jumped on Wednesday to levels not seen in more than a decade, amid shipping disruptions stemming from the Russian invasion of Ukraine as it pressed into its seventh day.
See: Wheat futures surge to 14-year high on fears of war-driven supply shortages
Papic says he worries that Russia could curtail its export of potash, which he said is a fertilizer farmers use to sew fields. Russia produces around 16% of the world’s potash, while its ally Belarus also is a large global supplier of the fertilizer, he said. “If they banned the export of potash,” Papic said that costs could go “through the roof” and countries that can’t pay could potentially face “a food crisis.”
As for metals, Russia provides about 43% of the world’s palladium production, which is important for catalytic converters in cars, according to Papic. Should Russia start “messing with the metals,” by curtailing exports of palladium
PAM22,
aluminum or nickel, “this just adds inflation at a point where all of us thought it was kind of peaking.”
To fight high U.S. inflation that has spiked during the pandemic, Fed Chair Jerome Powell signaled Wednesday that the central bank intends to raise its benchmark interest rate by a quarter-percentage point following the end of its two-day meeting on March 16.
“With inflation well above 2 percent and a strong labor market, we expect it will be appropriate to raise the target range for the federal funds rate at our meeting later this month,” Powell said in prepared remarks for his testimony Wednesday before the Committee on Financial Services. U.S. inflation rose in January to 7.5% on a 12-month basis, the highest since February 1982.
Read: Powell signals 25 basis point rate hike is coming at policy meeting in two weeks
The stock market already was jittery before Russia’s invasion of Ukraine, as the Fed was pivoting away from its highly accommodative stance and investors expected that the central bank would this year begin raising its benchmark rate from near zero to combat the surging cost of living. Some investors have been anxious about how aggressive the Fed might be, with concern that rising rates too much too fast could hurt the economic recovery.
“The Fed has to now deal with a really complicated situation,” said Papic. “That should be unsettling to the market.”
The S&P 500
SPX,
dropped 5.3% in January and fell 3.1% in February, according to FactSet data. Major U.S. stock indexes, including the S&P 500, Dow Jones Industrial Average
DJIA,
and Nasdaq Composite
COMP,
were trading up Wednesday afternoon, after closing sharply lower Tuesday as Russia said it would begin attacks on Ukraine’s capital Kyiv.
“Eventually this could be a buy-the-dip kind of thing,” Papic said of the geopolitical tensions surrounding Ukraine. “We’re not there yet.”
