Events in Ukraine - Buy on the sound of cannons?

The title of this piece is based an old adage used in financial markets and is one of many used to describe the act of buying stocks when the news of conflict is announced. In modern parlance, it suggests that behavioral biases override the facts when it comes to events such as we currently seeing in Ukraine i.e. the fear bias in investors is provoked, generally by media hyperbole, which leads to a sentiment based sell-off, so we should be buying the market as a consequence. The same principle applies to panicking and selling.

However, it also suggests that market timing is something we should be considering. This is contrary to the concept of running a diversified portfolio with a long-term time horizon, where we use facts to construct a portfolio, not speculation. The construction of that portfolio should mean that the volatility experienced is in line with that indicated at outset. So, we need to restrict ourselves to explaining to clients what is causing that volatility and reminding them of the dangers of reacting to high profile events, no matter how negative and to focus on longer term considerations.

Turning to those facts, whilst we have no real idea of where this conflict is heading, we do possess certain information to hand which enables us to make informed comment:

• Whilst unpleasant to witness, this is a regional conflict apparently aimed at regime change, that is unlikely (one hopes) to spread further afield. It hits the headlines because it involves one of the world’s most well-armed, authoritarian regimes.
• The economic impact revolves around the effect on certain commodity prices, particularly oil and gas, which western European economies have been (overly)reliant on Russia supplying.
• The rise in energy prices will undoubtedly affect European companies’ input prices and thus profitability, in the very short term at least. Whether this will be sustained depends on how prolonged the conflict is.
• However, the effect on earnings for those companies outside of Europe will be less marked. US natural gas is priced at a fraction of the European contracts, for instance.
• There is a likely demand shock from sustained higher oil prices and this may act as a restraint on central bankers, who are naturally concerned about current inflationary pressures. They are still likely to tighten, but this may make that process more gradual, should the conflict persist for any length of time.
• European economies have already begun to realise that they are over dependent on Russia and have been looking to source natural gas, for example, from other sources. This conflict will add pressure to continue this process.

Other than the above, we would merely be speculating on many aspects of this conflict. It may well be that, as events unfold, there could be an impact of the shape of asset allocation at the geographical, sub-asset class or fund selection level. However, it certainly won’t lead to managers taking a gamble on the likely outcome. We will, of course keep you updated as to events and any impact on asset allocation, as time goes on.

Finally, I turn to a chart sent to us by our partners at Alpha Beta, which addresses the question in the title of this article, in relation to US equities at least.