Private Wealth

Weekly Research Briefing: A Sunflower Surprise

March 01, 2022

A field of surprises in the last five days:

• Surprise #1: Putin moved to take all of Ukraine at once

• Surprise #2: The World rises up to assist Ukraine

• Surprise #3: Ukrainians held their ground

• Surprise #4: The financial system and asset values of Russia collapse

• Surprise #5: Germany to more than double its defense spending

• Surprise #6: Swiss bankers freeze Russian assets

• Surprise #7: European countries not in NATO now looking to join

• Surprise #8: The Ukrainian voice of Paddington Bear is now the most popular leader in the World

There will likely be more surprises in the days and weeks ahead. Let's hope that this entire situation de-escalates, and everyone returns home safely. The world does not want this conflict. The Russian people do not want this conflict. One person is making all of the offensive decisions. What will be the exit move? The longer this drags out, the more Russia will be drained of financial and human capital. The country has entered a downward spiral of its own making which it must reverse, or foreign investment will not return soon.

For the rest of the world, supply chains and price increases will become even further disrupted as Russian exports end and Ukrainian exports stop flowing. We are seeing evidence of this in the prices of grains, industrial metals, energy, and of course sunflower oil. (Ukraine + Russia make up 80% of sunflower exports.) The U.S. Federal Reserve should look past the current geo-political impact and focus on the longer term as they look to move on policy mid-month. The markets agree and have quickly moved toward only a 25-basis point rate increase down from 50 bps two weeks ago. For investors, this has been one wild ride. As usual, one should not react and panic sell during the intra-market volatility. While Putin did raise their nuclear readiness, which caused the weekend scare and flight to safety, it is difficult to see that action taken. If you think that the markets are overvalued and still want to cut your risk exposures, at least wait until some of the dust settles and hopefully some cooler heads prevail. Given the global united front that is standing alongside Volodymyr Zelenskyy, one would expect to see an improvement in the geo-political situation in the future that could be accompanied by an improved appetite for risk and market prices.

Few saw that one coming...

Thursday's full invasion into Ukraine led to the single largest market event on a major world index.

Biggest daily decline on major world equity indices


An even bigger surprise...

With much of the world moving against him, economic sanctions piling up and a military campaign less successful than he expected, Russian President Vladimir Putin on Sunday issued the ultimate deterrent threat.

Mr. Putin put his country’s nuclear-deterrence forces on high alert, a warning to the countries lining up to help Ukraine fend off its Russian attackers. The announcement was a window into Mr. Putin’s increasing isolation and anger. His behavior is making his inner circle appear visibly uncomfortable.

Mr. Putin issued his warning Sunday sitting at one end of a very long table. Seated far down the table were two top lieutenants who typically exude confidence. After Mr. Putin ordered them to put the country’s nuclear weapons on high alert, Sergei Shoigu —his longtime defense minister and stalwart ally—lowered his head in a sign of consent.

So far, the Russian leader appears to have miscalculated the economic and political costs as well as the on-the-ground challenges of an attack on Ukraine. His aggression threatens to have far-reaching consequences for both his global standing and the stability of his nation.


When NATO saw how Ukraine is fighting, they made an application to join Ukraine...

Far from dividing the West with fear, the unprovoked assault on Ukraine has been wholly counterproductive, uniting it in outrage. Spines are stiffening across Europe. Military volunteers are heading to Ukraine: a new International Brigade. Aid is pouring in, including lethal weapons — not least from Germany, hitherto an inveterate military slacker. In another astonishing flipflop, the continent’s economic giant is raising its defence spending to meet Nato’s benchmark, of 2 per cent of GDP. Hubris has squandered the fruits of decades of Russian divide-and-rule diplomacy.

And as the past few days have shown poignantly, Russian forces’ military superiority is outweighed by moral inferiority. They come as occupiers, not liberators. Ukrainians may be outnumbered but the vast majority are willing to suffer and even die to defend their freedom. How many Russians are willing to perish for Putin is less certain. The retired US general Keith Kellogg goes as far as to say on Fox News that Russia has already lost: “It’s not the size of the dog in the fight, it’s the size of the fight in the dog that counts.”

The Times

The Russian population had little interest in this fight. Now they have been destroyed by it...

There was low public support for war in Ukraine even before casualties began to mount. A long-running academic survey found in December that only 8 percent of Russians supported a military conflict against Ukraine, and only 9 percent thought that Russia should arm Ukrainian separatists. That is a very large enthusiasm gap for Mr. Putin to overcome.


The Russian elite have now been cut off from the bulk of their foreign wealth...

Switzerland, a favorite destination for Russian oligarchs and their money, announced on Monday that it would freeze Russian financial assets in the country, setting aside a deeply rooted tradition of neutrality to join the European Union and a growing number of nations seeking to penalize Russia for the invasion of Ukraine.

After a meeting with the Swiss Federal Council, Switzerland’s president, Ignazio Cassis, said that the country would immediately freeze the assets of Russia’s president, Vladimir V. Putin, Prime Minister Mikhail V. Mishustin and Foreign Minister Sergey V. Lavrov, as well as all 367 individuals sanctioned last week by the European Union.

Switzerland said it was departing from its usual policy of neutrality because of “the unprecedented military attack by Russia on a sovereign European state,” but expressed a willingness to help mediate in the conflict.


With the Ruble in a free-fall, the Russian central bank is doing everything it can to keep its banking system from collapsing...

Russia have more than doubled interest rates overnight to 20% - their highest levels since 2002.
That's the 8th rate hike in the past 12 months!

Russian CPI vs. Russian Policy Rate

But even 18-month Russian Government bonds are now trading at 82% of par value...



Foreign Russian bond ownership is 20%...

So, expect some pain in the portfolios of London, New York and Paris.

Foreign ownership of Russia's local-currency bond market


For those who can't sell their Russian debt, it has become very expensive to hedge away the risk...

The cost of insuring Russia’s government debt rose to a record after harder-hitting sanctions on the country prompted Moscow to take emergency measures to shield its financial sector.

Credit-default swaps insuring $10 million of the country’s bonds for five years were quoted at about $4 million upfront and $100,000 annually on Monday, signaling around 56% likelihood of default, according to ICE Data Services. ICE is the main clearing house for European CDS.


While the Russian Stock Market has been closed to prevent a global liquidation, we have some foreign-listed proxies to give us an idea of how bad trading will be...

@RobinWigg: The Moscow Stock Exchange is shut for now, but Sberbank has a London listing and has just collapsed 74% on opening


As a result, emerging market funds are freezing up due to difficulties in valuing Russian holdings...

Russia's stock market is "uninvestable" after stringent new Western sanctions and central bank restrictions on trading, making a removal of Russian listings from indexes a "natural next step", a top executive at equity index provider MSCI said on Monday.

"It would not make a lot of sense for us to continue to include Russian securities if our clients and investors cannot transact in the market," Dimitris Melas, MSCI's head of index research and chair of the Index Policy Committee, told Reuters.


We are not even sure if there remains an 'E' to value Russian equities on anymore...

VanEck Vectors Russia ETF


Expect the selling of Russian assets to continue as foreign investors reject and attempt to sell at any price...

Norway’s $1.3tn oil fund will dump its Russian investments as part of a wider package of support for Ukraine, highlighting how the international financial pressure on Moscow is being ratcheted up.

Norges Bank Investment Management, the sovereign wealth fund housed inside Norway’s central bank, has been instructed to immediately freeze all new investments in Russia and to begin unwinding its existing $3bn worth of Russian holdings, according to a statement from the Norwegian government on Sunday evening.

“Russia’s attack on Ukraine has challenged Europe’s security in a way we have not seen since the second world war,” said Jonas Gahr Store, Norway’s prime minister. “It challenges our norms, our values and the principles that our democratic society is based on.”

Financial Times

Here is N.Y. and N.Y.C.s decision...

Lander oversees the city’s pensions, allowing his office to exert influence over the environmental, social and governance practices of money managers and companies the city invests in, but each of the five funds has its own board of directors that must approve the decisions. The system had roughly $271 million in Russian assets as of Feb. 23, a spokesperson told Reuters.

His move follows an executive order signed by New York Governor Kathy Hochul on Sunday aimed at ending any state business with or investment in Russia.


Maybe more important to the average Russian citizen is that both the sporting and entertainment worlds are cutting off Russia from being a venue and a participant...

The International Olympic Committee on Monday deepened Russia’s isolation by recommending that the country’s athletes and teams should be banned from global sports competitions.


I doubt anyone had Germany doubling their defense spending in 2022 on their bingo card this year...

@Schuldensuehner: Good Morning from #Germany which changed decades-long aversion to military spending. Germany will channel €100bn this yr into fund to modernize military; by 2024, govt will spend at least 2% of GDP each yr on defense in line w/NATO target that Berlin consistently failed to meet.

Germany Defense Expenditure as % of GDP

Not only is Germany looking to shift toward more LNG and alternative fuels, but they are also reconsidering their nuclear phaseouts...

Germany pledged new support for liquefied natural gas terminals, the latest sign it’s willing to retool its energy policy in the wake of Russia’s invasion of Ukraine.

Just days after shelving an $11 billion pipeline project to bring Russian gas to Europe, Chancellor Olaf Scholz said Germany would move “quickly” to build two LNG terminals. So far proposed projects have been left to the private sector alone, and are facing headwinds without government support.

“The events of the last few days and weeks have shown us that a responsible, forward-looking energy policy is not only crucial for our economy and our climate. But also crucial for our security,” Scholz told the parliament in Berlin on Sunday. “We will change course in order to overcome our import dependency on individual energy suppliers.”


A good chart of Russian and Ukrainian exports for your thought wall...

Russia and Ukraine's main exports


Ukraine is big in agriculture which is why grain prices are on the move...

Global Production


This was one of the more interesting charts that I saw this weekend...

Viewed by the market as a safe-haven currency, the renminbi continues to climb.


The Daily Shot

Away from Eastern Europe, Target Stores made a big move today...

The retailer is clearly in a good position to take care of its employees and the expanded benefits will build employee loyalty and eliminate turnover.

Target Corp. on Monday said that it will boost its starting pay for workers beyond $15 an hour and expand health benefits for employees and families.

The Minneapolis-based retailer said its new starting wage for hourly workers at Target stores, supply chain facilities and headquarters locations will range from $15 to $24 per hour, "positioning Target as a wage leader in every market where it operates."...

The company also said that employees will be eligible for Target medical plans if they work at least 24 hours a week (down from 30 previously).

Denver Business Journal

Target's move will add even further upward pressure to kids' paychecks...

Change in median hourly earnings from a year earlier


Inflationary pressures are now a new item for pension plans...

I wonder if the 6-7.5% investment target rate will need to be increased in the future.

Rising inflation is driving up expenses for many large U.S. pension funds that have promised retirees cost-of-living raises.

About half of states link pension benefits for some or all of their retired workers to changes in the consumer-price index, according to the National Association of State Retirement Administrators. With inflation reaching 7% in December, some retirement funds are now looking at increasing pension checks by 3% or more for the first time in a decade. At others, board members or state officials are approving one-time cost-of-living raises.

“It’s a hot topic,” said Keith Brainard, the association’s research director. “A cost-of-living adjustment can be an expensive plan provision.”


Gasoline prices should not be a top concern right now...

They are basically the same price today as they were 10 years ago.

Weekly US Regular All Formulations Retail Gasoline Prices


Even if crude oil goes to $150 per barrel, it should be able to be easily absorbed by the U.S. consumer...


JPMORGAN: “Households in the aggregate have accumulated about $2.6tr of ‘excess saving’ in recent years relative to the pre-pandemic trend, which all else equal could be enough to cover even a sustained 50% surge in oil and natural gas prices for many years to come.”

Estimated consumer burden from energy price increases

The U.S. economy had a good durable goods number last week. But today's Chicago PMI was a step backward...

Big drop in the Chicago PMI.
56.3 vs. Exp. 62.3 (Prior 65.2)
Largest 1 month drop since April 2020.
All eyes on the ISM tomorrow…

Chicago PMI Business Barometer vs. ISM Manufacturing Index

The markets are solidly betting on a 25 basis point Fed Funds rate hike in two weeks...

@bespokeinvest: In the month of February, the odds of a 50 bps hike in March have gone from under 10% to 100% and back to less than 10%.

Target rate Probabilities

CME Group

Will higher rates reduce the number of “zombie” companies?

The tide going out will reduce the number of zombies because they won't be able to make their higher interest payments and they will go out of business. Corporate Darwinism at work.

Tightening Brings A Wide Array of Consequences

Housing still blistering as average house selling nears two weeks on the market...

And for 10-20% premiums to list price for the houses in Denver.

Median Days on Market


A look at the market valuation given the 10% pullback shows that it is still expensive...

@FactSet: The forward 12-month P/E ratio for $SPX of 18.8 is above the 5-year average (18.6) and the 10-year average (16.7).

S&P 500 Forward 12-Month P/E Ratio

The IPO market is frozen. Good news for private market pools of capital looking to deploy capital and invest in good companies...

After a rousing 2021, initial public offerings have been on hold this year. Don’t expect them to come back soon, bankers and executives say.

Even before Russia invaded Ukraine, new issues had already slowed down in the first quarter as a result of inflation and the Omicron variant of Covid-19. Just 21 firms had listed shares using traditional IPOs as of Feb. 23, the day before the attack on Thursday, according to Dealogic. The total raised was $2.3 billion–far below the $24.8 billion from 59 firms that hit the market in the same period in 2021.

New issues have also performed badly. Last year, a record 457 businesses listed their shares using a traditional IPO, but 77% are trading at or below their IPO prices, according to Renaissance Capital...

The pipeline of companies waiting to go public is also huge, Kennedy said. More than 200 private companies are showing signs of preparing for an IPO, he said.

Another 150 companies, representing $19 billion in value, have filed with the Securities and Exchange Commission for a traditional offering but have yet to price their deals. The total includes 118 companies from 2021 and 36 in 2022.

Ted Smith, president of technology-focused investment bank Union Square Advisors, is taking a wait-and-see approach to IPOs. Smith typically advises private tech firms that are interested in raising capital or pursuing an M&A exit. He noted that there are many funding options available right now for private companies. Global venture capital funding soared to $621 billion last year, for example, more than double the $294 billion invested in 2020, according to CB Insights.


Warren's pen was good and wide this weekend...

In writing about the railroad, he hits both the environmental benefit of BNSF as well as the stretched accounting of bull markets. The annual report is always a must read for any investor.

BNSF, our third Giant, continues to be the number one artery of American commerce, which makes it an indispensable asset for America as well as for Berkshire. If the many essential products BNSF carries were instead hauled by truck, America’s carbon emissions would soar.

Your railroad had record earnings of $6 billion in 2021. Here, it should be noted, we are talking about the old-fashioned sort of earnings that we favor: a figure calculated after interest, taxes, depreciation, amortization and all forms of compensation. (Our definition suggests a warning: Deceptive “adjustments” to earnings –to use a polite description –have become both more frequent and more fanciful as stocks have risen. Speaking less politely, I would say that bull markets breed bloviated bull . . ..)

BNSF trains traveled 143 million miles last year and carried 535 million tons of cargo. Both accomplishments far exceed those of any other American carrier. You can be proud of your railroad.

Berkshire Hathaway

Few look at book value anymore, but all those 'old-fashioned sort of earnings' do add up and help carry the Berkshire Hathaway price higher...

Berkshire Hathaway


Even when you apple-to-apple compare private market fund returns to their public market equivalents, the outperformance is impressive...

In a longer-term picture of private equity’s performance vis a vis public markets, the chart below shows pooled average buyout returns, which have outperformed in every single one of the past 20 vintage years and by an average of more than 1,000 basis points. Private credit also outperformed in every vintage year over the last 20. These charts show vintage years and public market equivalent (PME) – a measurement accepted by investors as the most appropriate way to benchmark returns.

The figures are based on Hamilton Lane’s database of 45,000 funds with more than $15tn in assets, across 50 vintage years.

Pooled Returns By Vintage Year
Pooled Returns By Vintage Year

Hamilton Lane

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