Conflict in Ukraine – Answers to some key questions


Will events trigger a global recession?

As Russia and Ukraine account for only 2% of global GDP, the first-order effects of the conflict on global growth are not expected to be large. However, where the risks have increased is with respect to second-order impacts.

In our central scenario, a ceasefire in the war and a cooling of rhetoric between NATO and Russia by summer would mitigate risks to the global economy. That said, the trajectory of commodity prices, inflation, growth and central bank policy has become harder to predict with confidence.

The energy sanctions announced to date are consistent with our central scenario, in which these measures contribute to a gradual withdrawal of Russia from global energy supply chains, rather than forcing an abrupt halt in energy flows. In this case, we expect Brent prices to remain volatile in the short term (our June forecast is 125 USD/bbl) and trade around 105 USD/bbl by the end of the year. .

Another key second-order effect is the impact of rising commodity prices on monetary policy. With inflation well above target, we do not expect central banks to significantly slow the pace of tightening in response to risks from the war. In our central scenario, we expect inflation to decline over the course of the year, albeit later than initially expected.

Where will commodity prices go from here?

Broadly diversified commodity indices are up 19% to 23% based on total return so far this year. During the week of February 28 to March 6, they recorded one of their strongest weeks ever. Energy and grain prices have led the recovery, climbing 25-30% since the start of the year at the sector and sub-sector level.

But despite the strong rally, we continue to see more upside in some commodities and have raised our outlook across the sector.

Should I sell now?

The war in Ukraine added to the volatility. Market volatility, as measured by the VIX index, reached its highest level since the early stages of the pandemic in the spring of 2020. The MSCI All Country World Index fell 3% between February 23 and March 15, and the EuroStoxx 50 is down almost 6%. Despite significant daily (and intraday) swings in the S&P 500, the index has been relatively resilient and is within 1% of its pre-invasion level.

We expect volatility to remain high in the near term. But we believe a rally in equities can resume if our baseline scenario for a ceasefire and cooling rhetoric between NATO and Russia by summer materializes. This would stabilize energy prices, limiting the drag on economic growth and profits.

Where are the shelters?

Many classic “safe haven” assets performed well at the start of the conflict, including US Treasuries, the Japanese yen, the Swiss franc and gold. But we are now seeing better ways to create defensive exposure in portfolios. We like the US dollar, which typically outperforms during geopolitical crises, and has done so again. The DXY dollar index is up about 2.5% since the Russian invasion. We believe that the US dollar should remain well supported in the short term, as the only safe-haven currency also exposed to a tightening bias (unlike the yen and the franc).

Another way to build some defense into portfolios is to add more defensive sectors and strategies. Global healthcare is our preferred defensive sector (although we expect US healthcare to trade in line with the rest of the US market).

How can I hedge a portfolio?

There is no one-size-fits-all hedge for investors, and while volatility remains high, buying outright protection for equity positions can be costly. But by keeping portfolio principles in mind, investors can help protect entire portfolios from volatility.

Is it time to buy the dip?

Volatility is expected to remain elevated in the short term, so we cannot rule out the possibility of further short-term declines for global markets. We also recently downgraded our view on Eurozone equities to neutral given the region’s exposure to Russian energy supply disruptions. As a result, we are now neutral on equities overall on a tactical basis. We therefore do not recommend adding exposure beyond long-term strategic objectives at this time.

However, in our base case, we currently do not expect this decline to last and note that in the longer term, at least since World War II, geopolitical events have tended not to impact major impact on market returns.

Should I buy now or wait?

Picking the perfect time to enter the market – or exit it – is notoriously difficult, and building exposure during a geopolitical crisis can seem daunting, especially given the potential for further losses. Given the current uncertainties, we advise against increasing their equity exposure beyond the long-term target allocations.

The content is a product of the Chief Investment Office (CIO).

See the full report: Conflict in Ukraine – Answers to key questionsMarch 16, 2022.


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