Russia’s Invasion of Ukraine and How Investors Should Respond
The prospect of a volatile market this year was present despite the rising tensions between Russia and Ukraine, and Russia’s invasion pushed the markets further into decline.
Regardless of how the markets react, our hearts are heavy as we think about the tragic human consequences from the Russian government’s territorial ambitions. These consequences are much greater than the impact on our portfolios.
But we’re still faced with the reality that there will be some impact to our own personal financial positions and understanding both how to interpret the information and what to do about it will be critical for investors this year.
Concerns of rising rates and inflation have been extended by these geopolitical issues. There is one sure fact about the markets that federal employees should consider carefully when assessing their position: the markets always price-in events faster than you.
Many international relations experts agree that the worst-case scenario is that this war begins to expand, more western civilians begin to take casualties and suddenly there’s a fight with a NATO country.
Markets have been pricing in recent events in what appears to be a matter of minutes, so I don’t believe we’ll see a gradual move in stocks if the conflict worsens. If anything, it will be hard and fast, and I think investors need to be ready for that. Going to cash or moving to a more conservative portfolio, may not be the answer on the brink of the highest inflation we’ve seen in 40 years.
If you’ve followed my content for any length of time, you’ll know that we aren’t the type of advisors to pretend to know the short-term implications of any given event. But you also know that we’re the academic types and are constantly consuming information.
This is because we understand that sophisticated investors should be making their decisions based on facts, not feelings, and knowing how to decipher good information from bad, and how to apply the data becomes critical.
There are three important steps with which investors need to be experienced to get through events like these:
- Receiving and understanding the data,
- Knowing how to interpret the data, and
- Knowing how to apply this information to their personal financial positions.
The Details Matter
Having the right information matters. Let’s briefly dive into the current relevant details:
U.S. stocks rallied after Russia invaded Ukraine on Thursday. The news that the initial sanctions wouldn’t target Russian energy exports to Europe reduced concerns about a European economic slowdown.
- Markets rallied from post-invasion lows on news that initial sanctions against Russia were less severe than expected and didn’t target Russian energy exports to Europe.
- Core Personal Consumption Expenditures (CPE) inflation rose 0.5%, confirming inflation remains a challenge for the U.S. economy.
- Strong fourth quarter earnings and a decline in stocks have pushed valuations lower.
The strong demand in the goods sector remains a source of inflation. Goods inflation rose 1%, and goods consumption leapt 5.2%. Services spending rose 0.5%.
That said, there is plenty of data that suggests the U.S. economic recovery remains healthy. Manufacturing and services PMIs increased, showing more firms are expanding. Home sales slowed even though the number of homes sold that are not yet under construction jumped higher. Business investment remained strong, growing 0.9%.
On the day Russia invaded Ukraine, U.S. stocks started out lower, but by mid-day, the S&P 500 turned sharply higher and rallied 1.5%. On Friday the S&P 500 jumped another 2.2%.
It might appear like the market was responding positively to a tragic global event, but that wasn’t the case. This is the perfect example of how the market prices in events faster than you can place your trades.
Markets look forward and gauge the probability of events. In this case, it reflected market expectations that an invasion would take place. Once an invasion was reflected into market prices, we began to see it move on other factors:
- What is the risk of escalation?
- What are the long-term consequences of this event?
- What economic impact will sanctions have on domestic and other international markets?
The initial prospective was that Putin would focus his attacks, but the more aggressive behavior suggested more severe sanctions were likely. Instead, we saw sanctions that will challenge the Russians, but exclude existing energy imports from Russia. How did this impact the markets?
There is a major concern of how the conflict affects Western Europe. Developed nations in Western Europe make up 17.2% of the MSCI ACWI, which tracks global impact. Countries that border Ukraine are only 0.6% of the same index, and that data includes Russia and was calculated prior to the Russian stock market’s decline this year.
In response to greater sanctions, Putin announced he had placed Russia’s nuclear forces on higher alert. The longer the conflict lasts the more likely the market will experience big swings from the risk of escalation.
Domestically, economists agree that any notion of the Fed staying the course with hiking rates by 50 basis points (0.5%) in March can likely be removed from the table. They’re not looking to “rock the boat”, but inflation is still a challenge in the U.S. that needs to be addressed.
It’s important to have the information about what’s happening and to address the questions and concerns that are on your mind. But be careful to be firmly rooted to your plan and investment policy statement, or risk becoming inadvertently redirected by the media’s relentless attempt at forecasting what the future will hold. Applying information you’re receiving incorrectly can wreak havoc on your financial plan.
Trying to guess how markets will react to challenges can be very difficult. Predicting what will happen isn’t enough. It requires understanding existing market expectations, predicting how other players will react to events, and sorting out how other investors may respond. It’s also important for you to become grounded in understanding bear markets.
Investors cannot control the impact that these events will have on the economy. How this impact will pour over into the markets is yet to be determined, and that’s where you have the ability to take control–not of the markets–but how you are reacting to the information.
We can’t predict what’s coming, but we can plan through it. We’ve done this for families through various market conditions, and a great financial plan is unequivocally the most important factor that allows families to maintain their financial independence through difficult markets.
Federal employees can consider moving their portfolio to “defensive” investments, or those sectors that tend to perform better in inflationary environments, such as international, energy, financials, consumer staples, utilizes, or even commodities.
But if an investor decides to reposition their portfolio, they must make sure they’re maintaining alignment to their overall plan. Pumping the brakes can be good in an emergency but using brakes too hard or for too long means you don’t get to where you need to go.
Being nimble in this new world is more important than ever. If you were planning on retiring this year and have yet to get your plan in order, there is no better time than the present.
Sophisticated investors have carefully planned their futures, and they’ve memorialized it with their advisor so that it serves as a beacon for when it’s stormy. Together they carefully adjust along the way to help make sure their financial ship is still sailing in the right direction.
These are the factors which you can control—not the storm, but rather your ship’s direction and reaction to how hard the wind is blowing. Volatile markets will come and go and will be a part of an investor’s entire life. Having a team that can help you expertly navigate through them will allow you to release that burden of uncertainty. Don’t wait until you’re “sinking” to start planning, because it’s not just your money, it’s your future.