Market Reaction: February 24, 2022
On February 21, Russian President Vladimir Putin signed decrees recognizing two regions in the east of Ukraine, Donetsk and Luhansk, as independent republics and ordered Russian troops in the area. President Putin has demanded that Ukraine be demilitarized and give up its NATO ambitions. In response, the White House announced an executive order barring Americans from investing in, trading with or lending to these regions. German Chancellor Olaf Scholz stated that the Nord Stream 2 pipeline from Russia to Germany cannot go into operation. Forthcoming sanctions could target Russia’s banking sector, restrict access to semiconductors, and target select Russian officials.
Further escalation seems likely, but we see a military response from the North Atlantic Treaty Organization (NATO) as low with President Biden already saying publicly that there is no scenario where he would send in American troops. Likewise, NATO Secretary General Jens Stoltenberg signaled in 2021 that NATO would not defend Ukraine but warned that Russia would pay a high price in terms of sanctions. With geopolitical tensions on the rise, it is not surprising that global equity markets have de-risked, particularly Russia’s stock market. However, past geopolitical events suggest that the impact on equities may not be long-lasting.
If we look back at historical returns around events like Pearl Harbor, 9/11, the Cuban Missile Crisis, etc. the average total drawdown was about 5.7% with the market bottoming after about 21 days and then taking about 51 days to recover. However, if the attack on Pearl Harbor is excluded, the market bottomed after just 13 days and fully recovered about a month later (see figure 1).
|Geopolitical Event||Event Date||S&P 500 Returns||Number of Days|
|One Day||Total Drawdown||Bottom||Recovery|
|U.S. Pulls Out of Afghanistan||8/30/2021||0.4%||-0.1%||1||3|
|Saudi Aramco Drone Strike||9/14/2019||-0.3%||-4.0%||19||41|
|North Korea Missile Crisis||7/28/2017||-0.1%||-1.5%||14||36|
|Bombing of Syria||4/7/2017||-0.1%||-1.2%||7||18|
|Boston Marathon Bombing||4/15/2013||-2.3%||-3.0%||4||15|
|London Subway Bombing||7/5/2005||0.9%||0.0%||1||4|
|U.S. Terrorist Attacks||9/11/2001||-4.9%||-11.6%||11||31|
|Iraq's Invasion of Kuwait||8/2/1990||-1.1%||-16.9%||71||189|
|Cuban Missile Crisis||10/16/1962||-0.3%||-6.6%||8||18|
|North Korea Invasion Of South Korea||6/25/1950||-5.4%||-12.9%||23||82|
|Pearl Harbor Attack||12/7/1941||-3.8%||-19.8%||143||307|
|Average:||-1.4%||-5.7%||average percent change for S&P 500 from hike to high across all given records in this table is 21.4||average percent change for number of months from hike to high across all given records in this table is 51.4|
|Average Excluding Pearl Harbor:||median percent change for S&P 500 from hike to high across all given records in this table is 12.7||median percent change for number of months from hike to high across all given records in this table is 33.1|
The impact on oil and other commodities (palladium, noble gases, wheat, aluminum, etc.) may be more pronounced with the price of Brent crude rising 11.0% since February 18 and breaching $100 per barrel (at the time of this writing the price is $104.01). It remains an open question as to how the rise in commodity prices may impact Federal Reserve policy. While the Fed may be worried that rising energy costs could weigh on economic activity, elevated levels of inflation may limit the Fed’s desire to react to the rising geopolitical risk. This is being reflected in financial markets with six rate hikes by the end of 2022 still being priced in. This limited desire to react may modestly increase the current level of economic risk when compared to Russia’s annexation of Crimea in 2014.
This backdrop of rising geopolitical tensions and monetary policy uncertainty is creating a volatile market environment. However, history suggests that these types of fluid events can change quickly and that trying to time the market is nearly impossible. History also suggests that there is little reason to try. Since 1990, simply staying invested would have netted an investor an average annual return of 10.8%. However, if an investor tried to time the market and missed the 20 best days, the average annual return drops to just 6.3% (see figure 2). We would also point out that 8 of the top 10 best days have occurred within just two weeks of the 10 worst days. Unfortunately, exiting positions as a result of volatility is usually a losing endeavor and typically weakens returns.
Citi’s Global Investment Committee (GIC) is maintaining its overweight in global equities but recommends upgrading the quality of portfolios by shifting 10% into dividend growers and sectors like healthcare and consumer staples, which tend to hold up better during risk-off environments. We continue to see the U.S. economic expansion as enduring, but we recommend reducing exposure to the riskier parts of the global equity market and increasing exposure in regions that have fewer headwinds.