Topic Tags: International Economy

The Impact of Russia’s Invasion on Bond Indices

Russia’s invasion of Ukraine has meaningfully altered the emerging market landscape. At the start of the year, Russia and Ukraine combined had comprised almost 5% of the hard-dollar index, JPMorgan EMBI Global, and the hard-dollar emerging market corporate index, JPMorgan CEMBI, with 3–4% in Russia and roughly 1% in Ukraine. In local markets, represented by the JPMorgan GBI-EM, Russia was approximately 7% of the index, while Ukrainian local bonds were scheduled for index inclusion at the end of March.

Since the invasion in February, Ukrainian debt, already stressed, has fallen further, and now represents less than 0.5% of the hard-dollar indices. Its inclusion in the local index is on hold until further review due to market disruptions. Foreign sanctions and self-imposed capital restrictions have pushed Russian dollar debt to distressed levels, with Russia unlikely to pay external debts in hard dollars. Local bonds are still trading near par, though a weakening currency has reduced the value to international investors. At present, Russia represents no more than 1% in the hard-dollar or local indices and will be removed by JPMorgan entirely at month-end as sanctions have made the debt illiquid and uninvestable. Belarus is also facing removal from JPMorgan’s ESG indices for its role in the conflict.

Managers face a tough decision regarding holdings in Russia. The local bond market is frozen for international trading. Although local bonds are trading near par in the domestic market, many managers are pricing holdings at zero. External debt is distressed but the market continues to function and there have been bright spots, with Russian energy giant Gazprom redeeming a bond, priced down to 50 cents on the dollar, at par on March 7th. With the write-down already taken and the removal from indices, Russian debt could be a source of upside in a recovery scenario, though uncertainties and risks certainly remain. Prudent risk management and process consistency remain key factors for Marquette as we analyze and recommend funds to clients.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Collapse of the Russian Ruble

This week, as the crisis in Ukraine continues to evolve, we look at the devaluation of the Russian ruble amid retaliation from the West. In response to Putin’s invasion of Ukraine, allied governments are imposing financial sanctions, companies are pulling back from operations in Russia, and investors are looking to exit Russian investments. As a result, the ruble, now worth less than a penny, has fallen more than 30% over the last week. The pace of the move surpasses even that seen in 2014 when Russia moved to a floating exchange rate amid pressures following its annexation of Crimea, resultant sanctions, and the sharp drop in global oil prices. In 2014, Russia was able to leverage its mountain of foreign currency reserves to eventually help stabilize the ruble. That ability is severely restricted this time following the decision to cut off certain Russian banks from SWIFT, the financial messaging system used by more than 200 countries to link money transfers between the world’s banks.

The sharp devaluation of the ruble could shock Russia’s economy. Inflation in Russia surpassed 9% as of February 25th, above the country’s 4% target. The Russian central bank on February 28th more than doubled its benchmark interest rate to 20% in an attempt to prevent a run on banks. The line the world is walking to manage inflation without negatively impacting growth is now much finer in Russia, with reverberations likely to be felt globally. Inflation, the path of rising interest rates, and geopolitical tensions remain key risk factors for investors this year, and we will continue to keep clients updated on developments and any related portfolio recommendations.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Life During Wartime: Assessing the Market Impact of the Russia/Ukraine Conflict

Recent days have seen an escalation of political tensions in Eastern Europe, and on February 24th, Russian forces began conducting large-scale military operations in Ukraine. These actions have drawn widespread condemnation from the international community, with NATO repositioning troops along its eastern flank and both the United States and European Union announcing intentions to impose sanctions on a variety of Russian financial institutions. The conflict has also threatened the stability of global markets, particularly those areas of the world economy that are most sensitive to energy and the performance of emerging market countries. The aim of this newsletter is to assess the ramifications of Russian actions vis-à-vis the broad market and determine the potential implications of further escalation of the conflict going forward, including:

  • Equity index performance
  • Index exposure to Russia and Ukraine
  • Commodity market expectations
  • Central bank policy and inflation impacts
  • Historical impact of similar exogenous shocks on equities

Read > Life During Wartime: Assessing the Market Impact of the Russia/Ukraine Conflict

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Russia & Ukraine: All Eyes on Energy

Escalating tensions between Russia and Ukraine have the world on edge. While the situation continues to evolve and the likelihood of a full-scale war remains unlikely, markets are attempting to price in the risk. This latest geopolitical clash builds on an already tumultuous start to the year for financial markets. In the U.S., the S&P 500 has fallen 8.1% from its all-time high on January 3rd amid concerns about rising inflation and consequential rate increases by the Fed. The latest year-over-year inflation figures for both the U.S. and Eurozone have reached alarming milestones, with the U.S. hitting a new 40-year high and the Eurozone setting a new record going back to 1991. Ballooning energy prices have been the greatest contributor to rising inflation, evident in the delta between consumer inflation and core inflation, which removes more volatile prices like energy- and food-related costs. The friction between Russia and Ukraine is only expected to worsen this dynamic, given Europe’s reliance on Russia for energy.

The European Union imports nearly 40% of its total natural gas consumption from Russia. While global oil prices tend to trade largely in tandem due to OPEC’s influence, natural gas prices are more sensitive to regional access and supply. The Dutch TTF Natural Gas price has historically hovered around $20/MMBtu but has surged more than 300% over the last 12 months, while U.S. Natural Gas is up just 36.9% over the same period. While geopolitical fears may continue to drive up the cost of crude as uncertainty builds, the more immediate impact is to the European energy markets via natural gas prices. In the most direct sense, the impact to global developed markets may be low, with the Energy sector comprising only 2.9% and 3.9% of the S&P 500 and MSCI EAFE indices, respectively, though knock-on effects may be broader, including economic sanctions and additional measures to combat inflation that could ultimately impact growth. Past geopolitical stress events provide little guidance with moving pieces always evolving. Tensions could deescalate and we could see little fallout, as was the case following the 2014 Crimean crisis, or pressures could mount with wide-reaching global implications. For now, we will continue to monitor and help our clients navigate the volatility.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

2022 Market Preview Video

This video coincides with our 2022 Market Preview letter from Director of Research Greg Leonberger, FSA, EA, MAAA and provides analysis of last year’s performance as well as trends, themes, opportunities, and risks to watch for in 2022.

Our Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real estate, infrastructure, private equity, and private credit, with presentations by our research analysts and directors.

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The Holiday Party Guest List

Though the leaves have only started to change color, holiday party planning is in full swing. And while ample food and drink are necessary inputs for any type of holiday celebration, it’s the guests who ultimately make the party…or break it. In a way, this dynamic isn’t all that different from the markets — at any given time, the prevailing economic and market conditions will dictate investor returns. Given this analogy, we thought it could be fun to take a survey of the “attendees” in the current market environment and see if we can draw a connection with real-life examples along with what each guest means to the success of the party…and investor. Oh, and one caveat as we go — similar to actual party planning, sometimes we don’t want to invite someone, but we have to invite this person; circling back to the financial markets, we can’t control what forces exist in the markets, but we will do our best to determine those that will be merry and those that will not. Confused? Don’t worry, I am too, but we’ll figure this as we go through the invite list.

Highlights from this edition:

  • The Delta variant’s impact
  • Consumer spending
  • The credit and equity markets
  • The coming Federal Reserve taper
  • Earnings peak for equities
  • Labor market shortages
  • Commodity returns
  • Inflation concerns
  • The Evergrande debt crisis

Read > The Holiday Party Guest List

Watch our Q3 2021 Market Insights Video for an in-depth analysis of the third quarter’s performance by Marquette’s research team.

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

Q3 2021 Market Insights Video

This video features an in-depth analysis of the third quarter’s performance by Marquette’s research team, reviewing general themes from the quarter and risks and opportunities to monitor through the end of the year. Our Market Insights series examines the primary asset classes we cover for clients including the U.S. economy, fixed income, U.S. and non-U.S. equities, hedge funds, real estate, infrastructure, private equity, and private credit, with presentations by our research analysts and directors.

Sign up for research alerts to be notified when we publish new videos here.
For more information, questions, or feedback, please send us an email.

Commodities: The Full Story

The first three quarters of 2021 have seen positive performance from a variety of asset classes ranging from U.S. and international equities to bank loans, which have exhibited returns close to their 10-year averages. However, one segment of the market that has experienced strong, aberrational performance on a year-to-date basis is commodities. Through the end of September, the S&P GSCI, a broad-based index that includes futures contracts on physical commodities, has returned 38.3% since the beginning of the year, far in excess of its long-term average. Recent performance for the asset class has largely been driven by surging demand for raw materials amid economic reopenings, coupled with pandemic-fueled supply chain dislocations, which caused the prices of many commodities to skyrocket. For instance, both lumber and copper experienced all-time highs during the first half of 2021, while agricultural commodity prices reached a 7-year peak earlier in the year as a result of strong demand for meat. Oil consumption also hit a seasonally adjusted high in July of 2021, which led to a 50% increase in the price of crude futures from the year prior. As the global economy continues to reopen, labor shortages, supply chain bottlenecks, and strong demand for raw materials will likely persist, meaning that positive performance from commodities may continue into 2022.

As investors assess the prospects of the commodities space going forward, it is important to keep historical context in mind. To that point, our chart this week examines both the 10-year annualized returns and standard deviations for eleven different asset classes to better understand the long-term performance profiles of each one. As displayed in the chart, the real estate space, as measured by the NCREIF index, has posted strong returns in the last decade as well as a low standard deviation (though the illiquid nature of the asset class may lead to some volatility smoothing). Equities have tended to exhibit higher levels of return and standard deviation than fixed income, while Small Cap indices have notched both higher returns and volatility than their larger peers across the geography spectrum. Interestingly, each of the asset classes profiled in the chart has yielded positive performance in the last 10 years with the exception of one: commodities. For the 10-year period ending September 30th, 2021, the S&P GSCI posted an annualized return of -4.8%. Additionally, the index has experienced an annualized standard deviation of 21.4% during that same period, which is again the most extreme of any of the asset classes in the chart above. Put simply, commodities have exhibited both the lowest returns and highest levels of risk of any major asset class in the last 10 years. As investors assess recent strong performance from the space and look to the future, it is crucial to avoid recency bias and keep history in mind. Prudence dictates a diversified approach to asset allocation in order to hedge uncertainty and achieve optimal risk-adjusted returns.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

China: Evergrande and Another Move Down

In August we released our newsletter China: From Leader to Laggard, in which we reviewed how China transformed from a top-performing country to a bottom-performing country between 2020 and 2021. We noted that increased regulation was a key reason for this change as new government policies have spooked investors. We highlighted that China has gone through these periods of regulatory change in the past and opined that the market would continue to be jittery over the next six to twelve months before recalibrating to the new environment.

Since then, Chinese equities have continued to fall as global investors focused their attention on Evergrande Group (Evergrande), a Chinese property developer. In this newsletter, we provide a synopsis of the Evergrande story and discuss the market risks.

Read > China: Evergrande and Another Move Down

 

The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.

What Does Fed Tapering Mean for U.S. Yields?

Last week, Federal Reserve Chair Jerome Powell indicated the potential tapering of bond purchases at some point in the future aimed at weaning the U.S. economy off the large-scale monetary stimulus that has been necessary during the COVID-19 pandemic. As exhibited by the current forward rates displayed in this week’s chart, the forecasted Fed tapering may result in gradual increases in the 10-year U.S. Treasury yield in the coming months. Since yields move opposite prices, the Fed’s expected Treasury-buying reduction is leading the Treasury forward market to anticipate prices to potentially decline with the lowered demand and yields to rise. Likewise, as the U.S. economy gradually recovers from the pandemic, the Treasury forward market might also be pricing in reduced Treasury purchases from the broader market as investors switch to riskier growth assets such as credit or equities. That said, these actions will likely cause fewer disruptions in the markets than those taken at the onset of the Taper Tantrum, which began roughly eight years ago. Investors were caught off guard when Fed policymakers announced the potential reduction of asset purchases in 2013, which led to a bond sell-off fueled by widespread fears of future price declines. These sales drove down the prices of fixed income securities significantly, causing the 10-year Treasury yield to skyrocket in a very short period of time. In addition to current forward rates, this week’s chart also illustrates this dramatic increase in the 10-year Treasury yield during the Taper Tantrum, including a surge from 1.70% to 2.61% within a three-month window. This movement is in stark contrast with current market expectations, which project the 10-year Treasury yield to increase from 1.50% to only 1.68% over the next nine months.

Although there are ongoing concerns surrounding COVID-19 and the possibility of contagion from a fallout in the Chinese real estate sector that may hamper markets in the near term, investors seem to be reacting to forecasted Fed tapering more favorably than they have in the past. This may be due to the belief that strong economic growth can support the Fed’s gradual pullback of monetary stimulus. It is also possible that the Fed has simply done a better job telegraphing future actions this time around and investors are comfortable with the gradual nature of the forecasted tapering program. It should additionally be noted that tapering will not start immediately, as policymakers are only looking to reduce support when they think the economy can sustain itself as conditions normalize.

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The opinions expressed herein are those of Marquette Associates, Inc. (“Marquette”), and are subject to change without notice. This material is not financial advice or an offer to purchase or sell any product. Marquette reserves the right to modify its current investment strategies and techniques based on changing market dynamics or client needs.