As I write this message, the war in Ukraine has entered its fourth week. After two years of suffering from a global pandemic, additional tragedy feels almost unthinkable.
As investors, geopolitical disruptions are difficult to predict. Russia’s invasion of Ukraine has literally changed the world order in a manner of days and weeks. Events like these can be extremely disruptive to market pricing—although usually for short periods—and often draw attention away from core, longer-term themes. In such situations, seasoned macro strategists typically highlight the benefits of looking past the headlines and focusing on where we are in the business cycle, the direction of interest rates and the strength of the consumer.
And yet, as we have spent the past several weeks reflecting on the implications of the conflict, we cannot dismiss its impact on our global macro views. Although many assets have already rebounded from their initial declines, we are carefully considering how the ongoing situation will affect our medium-term outlook. Our perspectives follow.
Direct and indirect sanctions make an impact
As the invasion of Ukraine intensifies and the humanitarian crisis grows, the U.S. and its allies have dramatically cut economic ties with Russia. In addition, a growing list of Western companies are voluntarily pulling back from the region.
Russia is becoming increasingly isolated as these sanctions curtail its ability to trade and disrupt its access to the global financial system. The U.S. and its allies hope their portfolio of targeted sanctions will bring a quick end to the human toll. Success in freezing some of Russia’s foreign exchange reserves has already had an immediate impact as the ruble has plunged against major global currencies. However, it is difficult to forecast how long it will take to resolve the conflict.
Inflation pressure grows
Global inflation was already running at elevated levels before the invasion, but the threat of shocks to energy and food supplies is pushing inflation even higher. Russia’s share of global GDP is modest, but as a major energy and metals producer, its impact on global commodity prices is significant. Sanctions against Russian oil producers and refiners are driving oil and natural gas price volatility as the risk of supply dislocations increases. The U.S. has banned imports of Russian oil and natural gas and expects the Middle East and domestic shale producers to fill the gap.
Russia and Ukraine are also large exporters of wheat and other grains. With global inventories well below average, the risk of supply interruptions of these food staples is driving prices higher as well.
Central banks remain resolute
Despite the uncertainty, the U.S. Federal Reserve (the Fed), the Bank of Canada and the Bank of England continue to execute on their tightening plans. The European Central Bank—which may be more likely to pause its tightening measures than other central banks—is quickly reducing its asset purchases as it clears the way to perhaps start hiking rates later this year. The persistent pace of inflation is pushing central banks to be aggressive. The Fed alone is expected to enact an additional six rate hikes by year-end and start reducing its massive asset portfolio in the next few months.
Delivering a soft landing
Global financial conditions will undoubtedly tighten this year as central banks scale back. Inflation needs to be contained, but lowering inflation without killing growth will require careful maneuvering.
Fortunately, across most developed economies the labour market is strong, household savings rates are high and corporate balance sheets are in good shape. Asset prices also reflect the pace of rate hikes as central banks have been transparent about their plans.
At SLC Management, it is our job to monitor and analyze financial markets through periods of both calm and volatility. However, the performance of any given investment or asset class seems inconsequential when compared to the current devastation occurring in Ukraine. Our commitment to clients remains unwavering, but we have not lost sight of the gravity of the situation and terrible loss of human life. First and foremost, our thoughts are with the people of Ukraine, and hope that a peaceful, diplomatic solution will ultimately prevail.
If you have any questions about your portfolio, please do not hesitate to contact us.
About SLC Management
SLC Management is the brand name for the institutional asset management business of Sun Life under which Sun Life Capital Management (U.S.) LLC in the United States, and Sun Life Capital Management (Canada) Inc. in Canada operate. Sun Life Capital Management (Canada) Inc. is a Canadian registered portfolio manager, investment fund manager, exempt market dealer and in Ontario, a commodity trading manager. Sun Life Capital Management (U.S.) LLC is registered with the U.S. Securities and Exchange Commission as an investment adviser and is also a Commodity Trading Advisor and Commodity Pool Operator registered with the Commodity Futures Trading Commission under the Commodity Exchange Act and Members of the National Futures Association.