Market Mayhem (13/03/22)
Russia-Ukraine Update, Nickel Squeeze, Inflation & CBs, & Berkshire Hathaway
Dear Readers,
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Russia-Ukraine Update
Western nations announced further economic sanctions against Russia this week:
The U.S. banned imports of Russian oil, gas, coal, diamonds, seafood, and vodka.
Similarly, the EU announced that it would prohibit imports of certain steel and iron products.
Both the U.S. and EU economies stopped exports of luxury products like cars, watches, and jewellery to the Russia.
Finally, the G7 partners are attempting to revoke Russia’s privilege of being able to borrow from multilateral financial institutions like the World Bank and IMF.
“As Putin continues his merciless assault, the U.S. and our allies and partners continue to work in lockstep to increase the economic pressure on Putin and to further isolate Russia on the global stage.”
- U.S. President Joe Biden
Still, we should keep in mind that U.S. trade with Russia is all but negligible anyway. In fact, according to the Census Bureau, the value of bidirectional trade between these nations in 2021 amounted to only $36.1 billion, of which $29.7 billion comprised U.S. imports of Russian products. That same year, the U.S. imported $450 billion worth of Chinese products… Yes, China is also a rival, but at a certain economic size even competitors have to trade.
The EU is much more dependent (a running theme in this crisis), and purchased 41% of Russia’s exports in 2019, according to the World Trade Organization. EU sanctions may hit harder, but the fallout will be - as always - two-sided.
The combined ban on exports of luxury items does signal a continuation of the West’s attempt to turn Russia’s elite against Vladimir Putin. Just look to the port of Trieste, where Italian authorities seized Andrey Melnichenko’s €530 million super yacht on Friday. Melnichenko is the owner of the Russian firms EuroChem (fertilisers) and SUEK (coal). In a document released by the European Council, he was described as being part of “the most influential circle of Russian businesspeople with close ties to the Russian government”. Melnichenko’s firms were allegedly involved in “economic sectors that provided revenue to the Russian government”. And we all know what that government is responsible for.
The obvious question: does the yacht look like it’s worth €530 million?
I mean, seriously… what a monstrosity. No wonder it was seized. I bet the Italians will try to smother it with an equally obnoxious tarpaulin as soon as possible.
Besides Melnichenko, other Russian businessmen have been hit with sanctions too. Roman Abramovich, in particular, has occupied headlines. After rushing to sell off his assets, he fled Europe on his own super yacht (no photo here, lest this turn into a magazine), leaving Chelsea FC without a patron for now. Perhaps he’s making ‘the call’ to Putin right now begging him to end the war in Ukraine as soon as possible. Some Western decision makers will certainly hope so, but I can’t picture it at all.
As to the corporate exodus from Russia… this has not only persisted, but also extended to Western banks. Goldman Sachs, JP Morgan Chase, and Deutsche Bank announced that they would wind down Russian operations and no longer entertain new business in the country.
Nickel Market Squeeze
A forward contract is an agreement between two parties to buy or sell an asset at a specified price at a future date, and nickel is a transition metal used in electric vehicles and the steel industry.
Tsingshan Holding Group (THG), a Chinese nickel manufacturer, had purchased a substantial amount of forward contracts on the London Metals Exchange (LME) in a bet that the price of nickel would decline. However, perhaps due to supply concerns accentuated by the Russia-Ukraine crisis, the price of nickel shot up earlier this week. This meant that THG’s positions were taking on serious losses.
THG received margin calls from its broker demanding that the firm post more collateral. At the same time, the Chinese group attempted to close its short positions, which meant it had to buy back contracts. In effect, this supercharged demand, leading to an extreme upward price spiral. In response, the LME suspended trading on Tuesday, and maintained this stance for the remainder of the week.
The suspension gave THG more time to stem losses via a combination of meeting its nickel delivery obligations and repurchasing contracts, and therefore incited controversy; the LME is owned by Hong Kong Exchanges and Clearing, which is also Chinese, and other non-Chinese players in the market were solely disadvantaged by the suspension.
Paper losses for THG are thought to exceed $8 billion.
“We faced a choice between ensuring the overall and longer-term financial stability of the market, and the shorter-term trading profits of those participants who had traded on Tuesday morning.”
“I can unambiguously say that the nationality of the participant was not a relevant factor here.”
- LME CEO, Matthew Chamberlain
It seems odd that THG would allow itself to be so exposed to a short squeeze when there’s been upward pressure on commodities for quite some time now. I mean, even the supply-demand imbalances caused by COVID are still around.
Inflation and Central Bank Updates
Central bank policy-makers are still managing a fine balance between countering inflation and sustaining economic growth. Their approaches continue to differ.
In the Eurozone:
Inflation (January) stands at 5.1%.
For Q2, the Asset Purchase Programme (APP) will consist of €40 billion in April, €30 billion in May, and €20 billion in June. In 2021, it was announced that the APP would continue until Q4 22. But now, inflation figures and the outlook will apparently determine Q3 (and thus also Q4) purchases. This obviously draws possible interest hikes closer.
Net asset purchases under the Pandemic Emergency Purchase Program will end this month.
Interest rates will remain unchanged for now, at 0% (refinancing), 0.25% (marginal lending facility), and -0.5% (deposit facility).
In the United States:
The CPI (February) came in at 7.9%, and 6.4% if we exclude the more volatile food and energy components (core CPI).
The Fed is expected to raise rates by 0.25% next week.
The FOMC Dot Plot implies end-of-year rates of 0.75% for 2022, and 1.6% for 2023.
Bond purchases have stopped this month.
Safe Haven: Buffett’s Ark-shire Hathaway
Investors are hiding from the market uncertainty by betting on Buffett’s mega-conglomerate, Berkshire Hathaway. That approach has paid off so far, with BRK.B returning 28% in the past year compared to 6% for the S&P 500.
I can come up with a few reasons for this:
Berkshire has a ‘war chest’ of $531 billion in cash and short term investments ($150 bn in pure cash), which is at the disposal of a savvy capital allocator known to scoop up bargains when opportunities present themselves.
Berkshire’s portfolio includes many ‘cash cow’ firms that have terrific pricing power. If inflation increases input costs, then pricing power allows for these expenses to be passed on to the consumers, preserving profits.
Berkshire’s energy exposure is key, especially when prices for oil & co. are rising across the board.
Buffett rarely overpays for businesses, and the general rotation from growth to value will certainly benefit the stock also.
Berkshire recently boosted its stake in Occidental Petroleum (OXY) to 13% in a clear vote of confidence for oil firms.