Discussing the impact of the coronavirus pandemic on markets and economies at large, seems to be a thing of the past. Not long ago, markets were primarily focused on the level of immunization and how economies will ultimately recoup from the mitigations measures imposed to mitigate the spread of the virus, straining sectors directly relying on contact and movement. Then, focus turned to inflation and the continued elevated price pressures which eroded household’s purchasing power. That too, now stands at the back of one’s mind. The ongoing tragic events unfolding in Ukraine became somewhat of a priority.

Russia and Ukraine, have in recent weeks, saw their bilateral relations deteriorate as Russian military build-up on the border of Ukraine. Despite often described as “military drills” by Russian spokespersons, a full-scale invasion was witnessed. Hundreds of thousands of citizens fled their home country, while thousands fell victim to such terror.

Not only has such invasion altered the life of millions of people in Ukraine, and those across the western world – leaping forward to defend the sovereignty and citizens of Ukraine – but also that of markets. Investors, as customary in times of crisis, sought shelter in safer assets. European sovereign yields and Treasuries, previously heading higher, amid anticipation of monetary policy tightening, dropped.

Notably, European’s benchmark yield; the German 10-year bund, lost some 30 bps since bilateral tensions escalated, now, marginally revolving in positive territory. The US benchmark yield, moved in tandem, along such similar path. At time of writing, the benchmark 10-year Treasury note yield was fenced around the 1.80 per cent levels as it rebounded sharply from a two-month low of 1.68 per cent, after Fed Chair Jerome Powell told US lawmakers the US economy no longer needs such accommodative policy stance. Albeit such reversal in yields, treasuries remained conditioned by Russia’s actions as intensified the shelling of several cities and huge Russian 40-mile convoy heads towards Kyiv while cease-fire talks on Monday proved futile.

Consequent to such developments, relating to the Russia-Ukraine tensions, investors scaled back the aggressive rate hike bets across major developed economies, with a 50bps Fed rate hike in March priced out and probability of a 25bps hike in March’s meeting, reducing. Market expectations on the number of hikes for the year also dropped to 5 from 7 priced in mid-February.

The future direction is two-fold

In our view, the future direction – notwithstanding the uncertainties that lie ahead – indeed point to two different scenarios.

A first scenario being a further deterioration in bilateral relations, comprising of further attacks on Ukraine and possible destabilization in government, the latter should a Putin-led army continue to get hold of key Ukrainian cities. Inevitably, this proves to be the worst of both scenarios. Europe, the economy most reliant on Russia’s Gas supplies and commodities, may possibly delve into a recession, with economic data taking a turn for the worse. Price pressures, notably headline inflation, may continue to notably head higher, particularly as energy prices continue to surge. Notably, WTI crude futures surged past $110 per barrel of Oil, the highest since 2013, after the International Energy Agency (IEA) warned that global energy security is under threat amid a worsening scenario in Ukraine and broadening sanctions against commodity powerhouse, Russia, stoked fears of further supply disruptions. Here, a shift towards a more defensive stance, is warranted. Portfolio positioning geared for an improved economic environment and policy hike, requires consideration. It is worth highlighting that a geographical distinction here must be made, with a clear differentiation between US and Europe, the latter, consequent to its ties to Russia, seemingly more vulnerable. Commodities, on track for the biggest weekly rally in more than five decades as the Russian invasion spurs sharp gains for grains, metals and energy prices, shall continue to tighten.

The second and more benevolent scenario revolves around the de-escalation of such tensions, with cease-fire and peace talks proving successful. While the road to such conclusion, to date seems far afield, the threat of further sanctions on Russia, possibly harsher and inevitably to the detriment of Russia’s economy, may push Putin’s regime to take a step back. Should we witness a full de-escalation, focus will once more turn to inflation and policy decisions central bankers will take.

Disclaimer: This article was written by Christopher Cutajar, Credit Analyst at Calamatta Cuschieri. The article is issued by Calamatta Cuschieri Investment Services Ltd and is licensed to conduct investment services business under the Investments Services Act by the MFSA and is also registered as a Tied Insurance Intermediary under the Insurance Distribution Act 2018.

For more information visit https://cc.com.mt/. The information, view and opinions provided in this article are being provided solely for educational and informational purposes and should not be construed as investment advice, advice concerning particular investments or investment decisions, or tax or legal advice.