What Does the Russia-Ukraine Crisis Mean for Investors?

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I have been holding off on commenting on the Russia-Ukraine conflict until some sort of resolution occurred. Lots of things could have happened, and we could drive ourselves crazy worrying about the possibilities. But now something has happened, and it is time to take a look.

Territorial Control Largely Unchanged

But even though something has happened, it’s unclear exactly what that is. The primary fear was that Russian tanks would be smashing through Kyiv, the capital of Ukraine. The reality is that Russian troops are moving into areas already controlled by Ukraine’s Russian separatists. How many troops? We really don’t know. But they are entering territory already outside the control of the Ukrainian government. As of this writing, in terms of actual control of territory, nothing much has changed—yet. And that takes us back to what might happen as opposed to what is happening. The worst fears, so far, are unfounded.

Wall Street Worries

We can apply the same lens to the markets. Something has happened—the S&P 500 is down by 10 percent. But why? Is the Ukraine conflict the reason? Or is the decline due to something else? So far, it looks like Ukraine is not the reason for the drop, despite the fears. So, if that is the case, future damage to the markets from the Ukraine crisis, if any, should be limited.

But what has pulled the markets down, if not the Ukraine crisis? The most likely candidate—one which makes both fundamental and mathematical sense—is higher interest rates. The numbers work like this. Since the start of the year, the yield on the 10-Year U.S. Treasury is up from 1.63 percent to 1.97 percent. That’s an increase of 34 bps, or 21 percent. Higher rates typically mean lower valuations. And, currently, the forward price/earnings ratio for the S&P 500 has dropped from about 22.35 at the end of 2021 to an estimated 19.1, a decline of 3.25 or about 15 percent. After adjusting for earnings beats this quarter, that drop in valuations pretty much explains the drop in the market. And that rationale doesn’t leave much, if any, room for worries about Ukraine. Wall Street, then, seems to be much more worried about Fed Chairman Jay Powell than Vladimir Putin, at least at the moment.

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