Russia / Ukraine Conflict Outlook and Impact on Portfolios

Introduction

Following the invasion of Ukraine by Russian armed forces, G7 nations imposed severe sanctions and restrictions on Russia. Certain western countries have also amassed military forces in surrounding regions and/or are sending weapons to support Ukraine.

The situation is changing rapidly. Our analysis is ongoing. Here are our current thoughts:

Macro Implications

While Russia represents a small portion of global GDP (2%) and capital markets (0.2%),it is a major commodity exporter, especially of oil and natural gas to Europe, and supply disruptions will have adverse affects on prices. In addition, Ukraine is a major agricultural exporter and disruptions may cause shortages and food inflation in certain regions. This shock will hurt global growth via higher commodity prices and weaker consumer sentiment. Globally, inflation is likely to stay higher for longer.

Central banks will be in a difficult position of balancing policy with weaker growth and higher inflation. This increases the risk them raising rates/removing policy accommodation too aggressively, creating a larger growth slowdown and potential recession. The goal of a soft landing has become more difficult.

Portfolio Implications

Direct Russian exposure via fixed income and equity markets remains minuscule in our portfolios and direct exposure to Ukraine is even lower.

Near term volatility suggests less aggressive positioning in portfolios short-term. At the margin, the portfolios are holding higher cash balances and have slightly reduced equity exposure. Within the equity component of our portfolios, we had been reducing our European exposure at the margin already, given our view on growth there, and preferring U.S. and Canada. The current growth/inflation environment favours commodities-oriented regions.

However, the heightened volatility due to macro-economic and geopolitical events is not an uncharted territory. There are numerous examples over the past 20 years of market selloffs on significant events. Most recently, the onset of the Covid 19 pandemic in March 2020 triggered a significant fall on concerns about the global economic impact. Markets inevitably stabilize and resume a trajectory more closely aligned with economic growth.

We counter these periods of uncertainty by ensuring our portfolios are well diversified with a focus on quality investments that derive cash flows during market upswings and, more importantly, during periods of volatility. Our dynamic asset allocation process will allow us to be nimble and take advantage of dislocations as they appear.