GLOBAL MARKETS
The events unfolding in Ukraine this morning represent a very serious escalation of the conflict. As many had predicted, Russia has now launched what looks like a full-scale invasion with attacks on military (and some public) infrastructure across the country. This is an incredibly dangerous moment for Europe and a tragedy for the people of Ukraine. The initial market reaction has been as one might expect, with falls in most risk assets and a rally in safe haven ones, though it might surprise some the falls have not been larger thus far. From a purely investor rather than human perspective, it must be recognised that it comes at a time when sentiment is already relatively fragile given the uncertainty over monetary policy across the globe. The interplay between risk factors is made even stronger as this conflict could further exacerbate the inflationary pressures which stalk the global economy, given Russia’s importance in the areas of energy and agriculture. True enough, the prices of commodities in these areas have risen strongly over recent days. Central bankers must be hoping for a miracle at this point, but things (we argue) are at this stage unlikely to change course.
Many had anticipated this escalation and thought a full-scale conflict beyond that which we had seen to date would probably take another 5% off global equity markets (if one looks at reactions to previous conflicts in recent history). This is bad enough in itself, considering some index falls already seen, but given the problems of timing and exit and any re-entry into markets if a resolution of sorts were achieved, it might not merit widespread changes. The extent of possible market falls will now be re-evaluated as the possibility of a still wider conflict cannot be discounted – the tone and content of Russia’s statements over recent days are not encouraging.
Investors were already worried, and the flow of alarming inflation data has continued in the US, UK and many other economies. The possibility of as many as six or seven rate hikes this year from the US Federal Reserve is concerning enough, but no one really knows the likely impact of the attempts to reduce the balance sheet. This leaves the fixed income and equity markets vulnerable at the same time, and there remain question marks over growth stocks in particular. Of course, some will say that this heightened inflation will calm down later in the year, with central banks desperately hoping this transpires to avoid having to endanger asset markets and the economy. Some are now suggesting that if they come close to containing inflation through interest rates, it will likely be at the cost of inducing a recession. Not our base case but certainly something to keep an eye on.
So, despite cash being perceived by some as being an unwise portfolio choice, especially in times of higher inflation, in times of volatility it can be invaluable. If your bond and equity holdings fall, the impact of inflation affects you there too, with real returns even lower than any headline losses. Cash also has what is termed very high optionality. We are facing very difficult markets where tactical changes are likely to become more important than they have been in recent years and avoiding potentially significant losses and keeping dry powder for ensuing opportunities seems like a sensible course of action. We are trimming equity positions in lower risk portfolios, with an eye on reinvestment later in the year, when some of the risks have hopefully dissipated.
Investment Line is written and edited by members of the Matioli Woods Group investment committee and is for information purposes. It is not intended to be an invitation to buy, or act upon the comments made, and all/any investment decisions should be taken with advice, given appropriate knowledge of the investor’s circumstances. The value of investments and the income from them can go down as well as up, and you may not get back the amount invested. Past performance is not a guide to future returns.
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