Who is more scary for global investors: Vladimir Putin or Jay Powell?
The Russian president has judo skills, nuclear weapons and 100,000 troops stationed around Ukraine to back up Moscow’s threats of “the most unpredictable and grave consequences” if the west rejects its security demands over its neighbour.
But judging from recent moves in global markets, investors are far more worried about the Fed chair, who lacks any of those attributes but does have the ability to raise interest rates.
Investors are not ignoring the stand-off over Ukraine as such. The rouble has weakened; one dollar will now buy you Rb78, from Rb74 at the start of this year. The country’s local-currency government bonds have as well, sending 10-year yields to more than 9 per cent, the highest in six years.
Russian stocks have also stumbled hard, reflecting the possibility that the EU and US could use a new volley of economic sanctions to try to convince Russia to back away from the border.
Even those local market moves are relatively tame. This is no rerun of the 2014 annexation of Crimea, and resulting sanctions, which kicked off a brutal drop in the rouble. The mildness of the reaction suggests that a lot of foreign money left Russia back then, and did not return.
Still, bursts of geopolitical stress tend to follow a certain script: haven currencies — particularly the yen and the Swiss franc — generally rise. US government bonds jump in price. Gold rallies. A classic flight to safety.
If that rush is happening, it is well disguised. The yen is flat on the month so far. The franc is weaker against the dollar, and gold is a snooze fest. Treasuries, meanwhile, are sliding.
Several possible explanations spring to mind. One is that investors simply do not believe that Russia will invade Ukraine. Let’s check back in on that sanguine view in a few weeks’ time. Another, brutally, is that even if it does, that will still not affect the global economy.
“While a war in the Ukraine could be a great human tragedy and a source of significant political tension, it is nevertheless likely to be a localised affair, with limited political and military contagion beyond Russia and the Ukraine,” said Paul O’Connor, head of multi-asset at Janus Henderson Investors in a note this week.
“The most important economic spillovers would probably be related to the squeeze on natural gas prices, coming at a time when energy markets are already very tight,” he added. That may be tough for residents of Kyiv to hear, but it is the way the markets work. It is also a reminder of the only issue investors truly care about at the moment: inflation and, by extension, the Fed. Hence the greater scaring power possessed by Powell.
Right on cue, the Fed chair ripped in to stock markets this week, when the central bank left interest rates on hold, but he declined to rule out a sharply more aggressive pace of rate rises in future to tame exceptionally high inflation. This could involve a super-rare half-percentage-point rate rise, or even as many as seven rate rises this year. (The market had been expecting four.) It was, as JPMorgan put it, a “No more Mr Nice Guy” moment.
Stocks dropped yet again. The benchmark S&P 500 index of US equities has lost around 9 per cent this month, making it the worst month since March 2020 — not a vintage period for global markets. The “buy the dip” era that has persisted ever since that low point in spring two years ago is dying.
US 10-year Treasury yields have kicked markedly higher, again in anticipation of the Fed’s next moves, to reach 1.82 per cent — the opposite to the kind of shift one might expect for a market in the grip of a weighty dispute between nuclear powers. The dollar, another currency treated as a haven, has picked up, but it is hard to see that as anything other than a reaction to the Fed.
But Russia could easily make an already tough start to the year even tougher. The energy price impact could prove strong enough to force the Fed in to an even speedier withdrawal of support. Higher energy prices may well depress corporate profit margins still further.
“It would not be helpful to European assets or European equities,” said Nannette Hechler-Fayd’herbe, chief investment officer of international wealth management at Credit Suisse, with no small degree of understatement. “Russian assets are trading at very attractive levels. If the geopolitical situation ebbs away then this would clear the way for a much better outlook there,” she says.
But of course, this assumption that Russia will pull back from the brink could prove overly optimistic. If it did, markets would react very badly, Hechler-Fayd’herbe adds. “We would see a significant reaction to the down side” in equities. The Swiss franc and yen would likely push higher. “But perhaps on the yield side not quite as big a push,” she says.
Putin’s power to fire up bond prices in the face of a hawkish Fed appears to have its limits.