A dangerous situation in Ukraine

Keith Lamoutte, CFA, Chief Investment Officer, Choreo, LLC

Derek Vasko, CFA, Manager, Investment Research, Choreo, LLC


For the second time in less than 10 years, Russian forces have waged a full-scale invasion of Ukraine, their neighbor to the west. As investors, it’s necessary to assess the potential market and economic implications; however, we would first acknowledge and emphasize that the impact on human lives is far more important, and our thoughts are with the people and families in harm’s way.

A Brief Synopsis

The escalation of tensions between Russia and Ukraine last week marks a flare-up — to put it mildly — in what has been a series of ongoing disputes that began in earnest in 2014 (discussed below). At its core, Ukraine is intent on remaining a sovereign nation and aspires to potentially join the European Union and/or the North Atlantic Treaty Organization (NATO), while Russian President Vladimir Putin wants to bring the country into the Russian fold. Ukraine is a relatively large country (roughly the size of Texas), and it is proving to be a much more formidable opponent than President Putin likely expected.

Beyond the strength of its people, Ukraine has garnered the support of the European Union, which is for the first time in its history supplying weapons to a country at war, as well as several individual European countries and the U.S. The military support is being delivered in tandem with increasingly punitive sanctions intended to severely inhibit Russia’s financing capabilities, limit its access to sensitive technology, and freeze assets for targeted individuals with close ties to the Russian government.

The moves have thus far served only to provoke Putin, who over the weekend ordered his nuclear forces to be on high alert — a very dangerous and unpredictable situation made worse.

Market Reaction

Historically, financial markets have tended to largely ignore geopolitical events, including Russia’s last invasion of Ukraine in 2014 (Figure 1). Any initial volatility has given way to a renewed focus on variables that more directly impact corporate profitability. At this stage, we do not see strong evidence to suggest this time will be different.

Russia's last invasion of Ukraine

In February 2014, Russian troops invaded and ultimately annexed the Crimean Peninsula. In the months surrounding the event, global equities fell modesty but recouped those losses in short order. As shown in Figure 2, the MSCI All-Country World Index slid roughly five percent in the weeks leading up to U.S.-imposed sanctions; while brent crude, the international oil benchmark, actually fell three percent. It would also rebound only to slide dramatically in the second half of the year amid a global supply glut (not as a result of the Russia-Ukraine conflict).

minimal market impact during 2015 Russia/Ukraine conflict

This time around, equity markets followed a similar pattern leading up to Thursday’s attack. However, the environment for energy commodities stands in stark contrast to 2014; oil and natural gas are surging to multi-year highs as supply remains constrained relative to demand. Brent crude briefly topped $100 per barrel last Thursday for the first time since 2014, while European natural gas — of which Russia supplies nearly one third — shot up more than 60%. Accordingly, investors are trying to assess the potential impact of sanctions on the commodities markets, as well as its flow-through impact on broader inflation.

When announced late last week, initial sanctions were less severe than initially expected; however, continued Russian aggression led the U.S. and other NATO members to announce further restrictions over the weekend. The most penal among them is arguably the curtailment of major Russian banks from using SWIFT, a global payments and messaging system used by financial institutions worldwide, but current reports suggest that energy-related transactions will be exempt.

Central Bank Reactions

This is significant because investors have already been on edge this year with historically high inflation underpinning expectations for major central banks to begin removing monetary stimulus and hiking interest rates. Russia is the third largest producer of oil, behind the U.S. and Saudi Arabia, accounting for more than 10% of global production2. In addition, it is among the world’s largest exporter of grains, fertilizer, coal and steel, among others. Therefore, cutting a significant portion (or perhaps most) of the country’s exports could have a measurable effect on already-high commodity prices and put additional upward pressure on inflation.

We do not foresee the Russia-Ukraine conflict, or the potential knock effects surrounding inflation, as cause for the Federal Reserve to hold off on a rate hike at its March meeting; however, excluding major financial institutions from SWIFT is expected to lead to missed payments and a lack of liquidity that may force it — along with other central banks — to step in on a short-term basis. On the other hand, this invasion increases the risk of recession in Europe and likely takes previously expected rate hikes by the European Central Bank off the table for the foreseeable future. In the U.S., Fed policy likely has not changed significantly, although the potential for a pre-emptive 50 bps hike in March may be less realistic now.

Peripheral Considerations

Consistent with news coverage and investors’ primary focus, our comments above have largely centered on the direct impact of the invasion and the West's response. At the same time, some peripheral considerations are also noteworthy:

  • China: We do not see this as an opportunity for China to press its advantage while the rest of the world is distracted.  However, per Libby Cantrill at PIMCO: “China’s failure to condemn what has happened in the Ukraine, its abstention on a UN Security Council resolution on Friday calling on Russia to stop the invasion, and its lifting of import restrictions on Russian wheat have only soured the increasingly-tense U.S. and China relationship. USTR Ambassador Katherine Tai said out loud what has been known for a while: That discussions with China on trade issues specifically are “extremely difficult and getting more difficult.”
  • Cyber warfare: Russia and China cyber warfare risks were already meaningful (but not acute) prior to the Ukraine invasion. While more in the spotlight now, it is unclear that the actual level of risk has increased meaningfully. However, even if the prospect of stepped-up attacks has heightened, firms in the financial industry are highly sensitive to this threat and have some of the strictest security standards in corporate America and regularly completes systemwide drills, most recently in November of last year, according to the Securities Industry and Financial Markets Association (SIFMA)3.


The conflict is in its initial stages and has already taken several unexpected turns. Though promising signs emerged over the weekend with both sides agreeing to hold peace talks on Monday, President Putin has put his nuclear forces on high alert after several NATO members that included the U.S. and Germany sent additional military aid to Ukraine and cut off Russian banks from the SWIFT. This is a potentially dangerous turn of events that bears close monitoring, but we do not foresee this conflict — as dire and unfortunate as it is from a humanitarian perspective — to have a material impact on financial markets beyond the next several months, if that.


Download PDF