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The last ten days have been critical and even distressing. The Russian invasion of Ukraine is a terrible event, and I hope it will end soon, but I don’t think we’re going to see the end of the war in a few days (at least for now there are no signs of de-escalation).
This event is heartbreaking from a human point of view, and it had heavy consequences on markets too.
For example, the fear led investors to put money on the most classical safe havens, like Gold, Treasury, Bund, Dollar and Yen.
Here you can see the chart of some of those assets:
On the other side, equities have been severely hit, especially in Europe.
From the beginning of the year, the returns are disastrous for many indices:
High inflation and slowing growth?
The Ukrainian war can be a game changer for global economy, and it can substantially modify the outlook on markets.
One of the main fear is the stagflation.
Just for your information I give you a brief explanation of what is stagflation: Stagflation is a period when slow economic growth and joblessness coincide with rising inflation (Source: World Economic Forum).
Until now I tought stagflation was just a remote scenario, but now I see the risk rising.
Firstly, the conflict is having a big impact on commodity prices, that are going up vertically, mainly because Russia is a big commodity exporter (see the table below) and the sanctions will limit the offer of several commodities.
Inflation was already high in US and Europe (chart below), but it was supposed to decrease in the coming months. After last events the risk to see an even higher inflation rose heavily.
Moreover the conflict and the sanctions will probably make more difficult any improvement in the supply chain, and this is another component that can contribute to see a higher and more persistent inflation.
Remember that a high and persistent inflation will have to be fought by central banks, that will be forced to increase rates. Indeed this month the Fed will start to hike rates, but the number of hikes is now considered lower than just a couple of weeks ago.
This week Jerome Powell anticipated a likely 25 bps hike for the March meeting, less than the 50 bps almost fully priced by markets at one point.
This first increase will just signal the begin of series of hikes.
But the central banks have to be really careful, because an already fragile growth can derail if rates will be increased too quickly, in a “war” environment.
Just watch the fresh estimates of the US GDP for the year, already decreased from +4.5% to +1.6%, signaling lower growth expectations.
Furthermore, a big increase in oil price can further have an impact on growth, as you can see below:
So far the job market is the only factor not going in favor of stagflation, but the other two components alone, can make markets very difficult to navigate.
Where to invest now?
Right now markets are tough to foresee, and I think that the current painful environment can last for a while.
First of all it can be good to have part of the portfolio in cash, ready to be deployed for future good opportunities. Do not exagerate with cash, that is not ideal to hold in a high inflationary enviroment.
Then, it would be good to stay a bit defensive and hold some safe havens like gold. It can be a good asset to balance the risk of the portfolio. Once geopolitical tension will ease it will be better to sell your gold.
Equities is a very hard asset class right now.
European stocks have been severely hit by the war in Ukraine and the following hard sanctions. At the beginning of the year Europe was my favorite geographic area, but now I am much more negative on that. FTSE 100 is probably the only index with a better prospect, thanks to a high exposure to energy, miners and defensive stocks.
Indeed I prefer to stay overweight on U.S. and China equities, because they can be more resilient and less dependent to the conflict (even because more distant).
Energy companies are still a good spot, and they are benefiting from high commodity prices.
Finally, a slower rate hike path by the Fed can be a good news for tech stocks (that are penalyzed from higher rates). I am now positive on U.S. large cap tech companies.
Have a great weekend!
Best regards
Market Radar
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