“The lack of visibility that we currently have in the market is enormous,” explains Sebastián Velasco, managing director of Fidelity International for Spain and Portugal. The economic fallout from Russia’s invasion of Ukraine will likely last longer if the war does not end soon. The combination of stagnation and high inflation is here to stay.
Central banks will have to act by raising interest rates or by communicating if they prefer to continue to support growth and employment and not touch the cost of money for the time being. The market discounts that the Federal Reserve will raise its rates to 2.5% in the next twelve months through ten increases of 25 basis points and that the European Central Bank (ECB) will begin at the end of the year with two increases. Indeed, Federal Reserve Chairman Jerome Powell opened the door at the end of March to a more “tightened” monetary policy to curb inflation. Powell said the central bank would take “the necessary steps” to return to price stability, even if that sometimes means raising rates more than 25 basis points.
The Fed updated its forecast for this year at the end of March, raising inflation from 2.6% to 4.3% and the drop in growth figures from 4% estimated in December to 2.8%. The ECB, for its part, is now counting on euro zone GDP growth of 3.7% this year, instead of the 4.2% anticipated in December, while in 2023 GDP growth will be 2. 8% and puts inflation at 5.1% in 2022 and 2.1% for 2023, while in December he forecast price increases of 3.2% and 1.8%, respectively.
Wall Street analysts argue that you have to look back to look at the 70s and 80s of the 20th century. These years were marked in the United States by the recessions of 1969 and 1982 and an increase in prices due to military expenditure due to the Vietnam War and the establishment of social programs. The analysts and founders of DataTreak, Nicholas Colas and Jessica Rabe, point out in a study that despite the volatility and inflation of those years, the market beat prices: between 1970 and 1982, the CPI advanced by 159%, the S&P 500 by 169%.
The rebound at the end of March is proof of this. The market is not anesthetized but it was expecting an even worse scenario at the start of the war. “The stock market has been terrorized by three major risk factors: The possibility that the North Atlantic Treaty Organization (NATO) could enter the conflict, the energy supply would be interrupted and the financing channels could be blocked. None of these three things are happening and as a result the market breathes a sigh of relief and tries to discount prices that are less negative for the economy and businesses,” comments Roberto Ruiz-Scholtes, Chief Strategy Officer at UBS. in Spain.
The most recent history shows that stock markets take an average of 49 days to recover from the start of a war, as a report from Banco Sabadell’s analytics department indicates. Of the wars of recent decades, the one that has done the most damage to markets has been the Gulf War, waged by a United Nations (UN)-sanctioned coalition force of 34 countries between August 1990 and February against Iraq in response to Iraq’s invasion and annexation of Kuwait. The S&P 500 plunged 16.9% and took 189 days to return to previous levels.
This disaster is followed by the North Korean missile crisis which affected the markets for 36 days. In the attack on the Twin Towers (11-S) it returned to previous levels in 31 days, during the Iraq War the S&P 500 returned to previous levels in 21 days, in the case of the 11-attacks M, it reached 20 days, 18 days is what the war in Syria affected and only 15 days when the Boston Marathon bombings and the Russian annexation of the Ukrainian province of Crimea took place.
Indeed, at the end of March, the markets recovered almost all the ground lost with the Russian invasion of Ukraine. The IBEX 35 is already down only 3%, but other indexes like the FTSE 100 are already positive. According to the experts, the most important thing, in any case, is to remain calm and not to panic in the face of the falls and the volatility that could occur in the coming days, because when there are signs of the end of the war, there will have a sharp rise as already happened in November 2020, when Pfizer announced the discovery of the vaccine against Covid-19.
Five keys left over from war
The conflict in Eastern Europe leaves important drifts for the world economy, which could have an echo in the decades to come and influence the stock markets beyond the short term and the noise generated by the tanks:
- It is accelerating de-globalization in reaction to the aggravation of tension between Eastern and Western countries. A conclusion that Covid-19 has already left due to cuts in supply chains at the start of the pandemic and due to trade tensions between the United States and China. “This will create a scenario in which companies will have less ability to optimize production costs, taxes and capital levels.which will result in a headwind for corporate revenues,” says Christian Rouquerol, Sales Director for the Iberian Peninsula at Tikehau Capital.
- The sanctions against Russia will likely strengthen the use of the Chinese yuan against the US dollar and expand the use of its interbank payment system instead of the international payment platform SWIFT. Russia will start demanding payment for its natural gas shipments to countries it considers “hostile”, such as the United States, United Kingdom and European Union, in rubles.
- The war in Ukraine will be a catalyst for Europe’s energy transition with the aim of gaining independence from producers like Russia or the Organization of the Petroleum Exporting Countries (OPEC). Renewable energies represent the achievement of energy sovereignty through technologies such as wind, solar or green hydrogen. The Iberian Peninsula and the Maghreb play a key role in this transition due to their climate with enormous sunshine compared to the countries of northern and central Europe. On the other hand, nuclear energy is not yet dead despite the fact that some analysts and experts had already given up on this technology. The United Kingdom and France have already announced their intention to strengthen it and the European Commission, in fact, has qualified investments in nuclear energy and gas as eco-responsible.
- The military budget and investments in defense and cybersecurity are going to be a trend in the coming years, as will post-pandemic health spending. Only one in three NATO countries devotes 2% of its GDP to defence: the United States, the United Kingdom, Romania, Estonia, Latvia, Poland, Lithuania, France, Norway and Greece. This is a percentage that was agreed to be reached at the 2014 Wales summit and one of the traditional demands of the United States, the member which allocates the most funds to this area (3.75 %). Washington contributes up to 22% of the Alliance’s total budget.
- The increase in the prices of energy and agricultural and industrial raw materials will have a negative impact on the profit and loss account of companies, in particular in electro-intensive companies and those which need raw materials in their production processes and which are very present in exports from Russia and Ukraine such as wheat, corn, sunflower, potash necessary for the manufacture of fertilizers, palladium, platinum, aluminum, nickel, neon… farmers are now in a crucial phase of the farming season, and the most extreme calculations indicate that if fertilizer is not added to the soil, yields can be reduced by 50% for the next harvest,” warns Mark Lacey, head of natural resources equities at Schroders. “The situation will get worse if the governments of the richest countries, such as those in the EU, start intervening in agricultural markets by subsidizing food prices to curb the inflation from which their citizens suffer. This could lead to a scenario in which the food availability gap between richer and poorer nations widens even further,” comments Mark Lacey. Obviously, there are also winning sectors such as the oil companies which, with a barrel above 100 dollars, are very profitable, they have the capacity to generate a lot of cash and profits to accelerate their green transition.
Lots of uncertainties, little visibility for investors and all this in the hope that the war will not drag on and end up generating more pain in Ukraine and social unrest in the rest of the countries due to an inflation that has not been seen in Europe and the United States for four decades. In the stock market, however, this may be one of those times that, in the long run, represents an opportunity to enter after the dips that occurred in March.