What's next for international equities?
The Ukraine situation likely accelerates recent sell-off.
Putin’s Ukraine invasion has accelerated a global market sell-off already underway due to high valuations and rising interest rates, energy costs and inflation. Fast-moving events mean that the only certainty ahead is abundant volatility across global markets. Here’s our current take:
- More economic sanctions will be forthcoming with limited short-term impact Myriad sanctions against Russia from Europe, the U.S. and the U.K. are designed to block Russia and its businesses from the financial markets, cutting off its ability to transact business with the rest of the world. Additional sanctions include blocking Russia’s access to key technologies and limiting foreign companies’ ability to make investments in Russia, particularly in its energy complex. Economic sanctions take time to have an effect, so don't expect Putin to immediately alter his behaviors on any new, more draconian sanctions. Over the last few years, the Russian president has made Russia more "sanction proof” and built up money reserves that could be used to stabilize the currency.
- Higher energy prices will be a headwind to global economic growth and continue to contribute to higher global inflation. Rising energy prices have been the main inflation driver around the world over the past year. In the U.K. for example, prior to Russia’s invasion, the price of natural gas futures was up over 350% from March 2020—and jumped to over 650% at the time of this writing. Twenty percent of Europe’s power generation comes from natural gas, with Russia providing about 30-35% of the fuel to Europe. Regionally, the dependence on Russian natural gas is more pronounced. Germany imports 65% of its natural gas from Russia. As for Asian countries, none have meaningful oil or gas resources. Russia is China’s third largest natural gas supplier and China accounts for more than 15% of Russia’s total crude oil exports. On the positive side, peak-demand season—in Europe, at least—typically ends by the end of March. So, even in the worst-case (and unlikely) scenario that Russia cuts off all oil and gas to that region, supplies from other countries and existing reserves should be adequate to meet current demand.
- Too early to say whether the global economy is heading for a recession. While some pundits are sounding the recession alarm, it’s a view we don't share. We know the bear case: a protracted war in the Ukraine could negatively impact business and consumer confidence, and higher inflation and energy prices could sap demand. On the other hand, strong domestic and international demand and decreasing Covid-19 infections contributed to a more positive outlook for businesses following January’s omicron-driven setback. Just this week, the eurozone reported preliminary February PMI numbers that showed a strong expansion of European business activity. Earnings season in Europe has been good, with the majority of companies beating on both top line and bottom line. Inflation around the world is elevated but typically behind where it is in the U.S. The Bank of England has begun normalizing rates with rate hikes in both December and January. The European Central Bank remains on hold, though we think Germany will reinsert itself, leading the ECB to become more aggressive in its fight against inflation. Meanwhile, China has entered an accommodative monetary cycle that will likely have a positive ripple effect on other Asian countries.