‘Investors are shocked’: How Russia’s attack on Ukraine shook markets

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The outbreak of the largest military conflict in Europe since World War II surprised many investors.

The Moscow stock exchange was hit by one of the biggest meltdowns in financial history this week after Vladimir Putin launched an invasion of Ukraine. The dollar-based RTS index lost 38% on Thursday as Russian bonds fell and the ruble plunged to a record low against the dollar.

The ferocity of the declines underscored how shocked even many savvy and well-connected Russian investors — who dominate activity in domestic markets — have been by Moscow’s foray into its neighboring country.

“This looks like Putin’s biggest misjudgment ever,” said Charlie Robertson, chief economist at Renaissance Capital. “His assessment seems to be that people will continue to buy Russian gas, wheat and metals, so what if they don’t buy Russian stocks and bonds?”

Russian financial markets partially rallied in Friday’s session, with the RTS adding more than a quarter as traders assessed a wave of sanctions imposed by Western powers that spared the country’s energy sector including other parts of Russia. Europe are heavily dependent.

Yet investors around the world will find it difficult to navigate the broader financial shockwaves, given the complex interplay between the impact on equities, the financial sanctions that will be imposed on Russia, the commodities, slowing global economic growth due to heightened geopolitical uncertainty and any response central banks may take.

“Investors are on their toes,” said Dominic Armstrong, managing director of Horatius Advisory, “No one expected to see cruise missiles fired at Europe in 2022 in a hostile attack.”

The reaction in global stock markets reflected the difficult cross-currents that investors must now navigate as they assess how the war in Ukraine could influence central bank decisions to withdraw pandemic-era stimulus. Persistently high inflation rates had already prompted traders to expect multiple interest rate hikes this year in Europe and the United States.

Any tightening of Western sanctions against Russia could pose the risk of disrupting commodity supply chains, fueling further inflationary pressures and reducing the attractiveness of speculative and high-growth stocks.

The FTSE All-World index has already fallen around 7% this year, with this week’s falls fueled by the Russian crisis adding to the downside.

Some international fund managers will be hit hard by direct exposure to Russian securities, whether listed in Moscow or on global exchanges. Financial sanctions could ultimately turn them into non-investable assets for most traditional financial institutions.

Russia is no longer such an important component of emerging markets as it once was, given the shift towards Asia over the past decade. But for some investment funds, it remains a popular bet, thanks to a growing affluent middle class, strong public finances and cheap valuations. More recently, Russian assets have also been a popular way to hedge against inflationary pressures, thanks to rising commodity prices.

“Investors are shocked they didn’t see this coming,” Robertson said. “It’s been as bad as it gets.”

Line chart of the ruble per US dollar (inverted scale) showing the Russian currency hitting an all-time high

The largest Western holders of Russian sovereign debt are funds controlled by German insurer Allianz, New York-based investment firm BlackRock, California-based fund management groups Capital and Western Asset Management and Vanguard, according to fund filings. compiled by Bloomberg. Together, these five investors hold about $7.4 billion worth of Russian bonds.

Many equity funds, especially those that specialize in developing economies, also have exposure to Russia. For example, the MFS Emerging Markets Fund had 7.9% of its $7.8 billion in assets invested in Russia at the end of last year, while the $2.2 billion emerging markets fund GMO had a 14.9% allocation to Russian stocks at the end of January.

Calpers, one of the world’s largest public pension plans, has around $900 million of exposure to Russia, having increased its allocation to emerging markets last November to boost its chances of hitting its growth targets. yield.

At the end of 2021, the Invesco Oppenheimer Developing Markets Fund managed by Justin Leverenz – one of the largest funds dedicated to emerging markets with more than $43 billion in assets – held 9% of its money in Russian securities. arguing at the time that Russian stocks were a “cheap and symmetrical bet”.

“Discussions of ‘devastating’ new sanctions seem largely fictional given the painful repercussions this would have on the global economy, and in particular on Western Europe,” he told the Financial Times in late January. Leverenz did not respond to requests for updated comment.

Analysts pointed out that apart from Russia’s important role as an energy exporter, the country’s direct financial ties to the outside world were modest, which would limit the short- and long-term impact. JPMorgan estimates that foreign banks’ total exposure to Russian banks, businesses and the state was only about $89 billion.

Nevertheless, a sense of confusion, uncertainty and even fear has been the dominant message from the financial sector this week, after Europe was again plunged into armed conflict.

“Today we woke up to a different world than yesterday,” DNB analyst Ingvild Borgen Gjerde wrote to clients of the Norwegian bank on Thursday.

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