Geopolitical Developments: Eurasian Horrors Will Start to Tamp Down Financial Market Sentiment

Indie rock lovers would likely think “From Kiev To Yangon” a perfect song title for glamorous navel-gazing mercifully free of political exhortation, and by coincidence for global investors the phrase conjures up a similar sentiment: the horrors across Eurasia deaden the heart but catalyze the intellect to bet on confidence in the US and its liberal capitalist system. Headlines of heartbreak have yet to impact the S&P 500: the volatility risk premium points to a higher market over the next few days, while my technical reading of key stocks in the S&P 500 is neutral. Across asset classes yesterday saw several positive factors for US stocks. The action in major currencies indicates the $US is weakening after its recent breakout, and inflation expectations are stabilizing based on measures of Treasuries and TIPS. Still, I expect the S&P 500 to be range-bound over the next few days as nonfinancial concerns rise to the fore, namely the race to beat COVID variants.

Here is a summary of the horrors from Kiev to Yangon:

1) Bloomberg notes wheat prices are rising in Russia and fueling inflation concerns, which means Putin will be looking for geopolitical distractions to save his popularity from falling. Atlantic Council notes “Thanks to a combination of rising anti-Kremlin sentiment and the effective disenfranchisement of Moscow-leaning electorates in occupied eastern Ukraine and Crimea, Ukraine’s formerly formidable pro-Russian political parties have seen support plummet from traditional levels of 40-50% to below 20%. This decline has been mirrored in other sectors including business, the media, and popular culture. Russia has lost its longstanding position as Ukraine’s dominant trade partner and currently finds itself more excluded from Ukrainian daily life than at any time in over three centuries.”

2) South of Russia Bloomberg notes the Taliban’s success to date may be limited going forward. “Afghans’ daily activity leans on a centuries-old, trust-based system of money transfers called Hawala. Opiates accounted for as much as 11% of gross domestic product in 2018. In a review the following year, the IMF found that illegal drugs represented “a significant source of funding for insurgent forces.” Yet the price of opium tumbled in 2019, and areas under poppy cultivation fell by 38% to the lowest since 2013, the World Bank estimated in an April report. Propping the economy atop a sector as unstable as the drug trade will never be a sustainable, or particularly advisable, approach…The dollar and the US willingness to let the Taliban use dollars is key because “The reality is, cash from international institutions and donors has underwritten Afghanistan’s financial system for decades. “Afghanistan’s economy is shaped by fragility and aid dependence,” the World Bank said in its April report.”

3) And west of Afghanistan the situation is not just political but ecological. Al Jazeera notes “More than 12 million people in Syria and Iraq are losing access to water, food and electricity, 13 aid groups warned in a report as they called for urgent action to combat the severe water crisis…Rising temperatures, record low levels of rainfall, and drought are depriving people across the region of drinking and agricultural water, said the report, published on Monday. Syria is currently facing its worst drought in 70 years…Since autumn 2020, unseasonably low levels of rainfall across the eastern Mediterranean basin have contributed to drought conditions in Syria and Iraq, according to a UN report in June…The water crisis was compounded by progressively decreasing water flows into the Euphrates River – which runs through both countries from Turkey – over months, falling from 500 cubic metres per second in January to 214 cubic metres per second in June 2020, said the UN…In the Nineveh governorate, wheat production is expected to decline by 70 percent because of the drought, while in the Kurdish region of Iraq production is expected to decrease by half, it said…Some families in Anbar province who have no access to river water are spending up to $80 a month on water, an unaffordable sum for most families.”

5) And across to Myanmar, War on the Rocks notes “Some in Myanmar are fighting back. Various armed ethnic insurgencies have stepped up their attacks on government forces. Though it has over 350,000 men under arms, the military, known as the Tatmadaw, is spread thin across multiple fronts. A nationwide civil disobedience movement has confronted the military, bringing the economy, health, and education systems to the brink of collapse. The World Bank is expecting at least an 18 percent contraction of Myanmar’s gross domestic product in 2021…Myanmar is on the verge of becoming a failed state. The Tatmadaw is digging in for the long haul, extracting enough rents from oil, gas, gems, timber, and hydroelectricity sales to China and Thailand to enrich itself. And it gets its cut of the surging trade in illicit narcotics from the Golden Triangle region, now among the largest centers of synthetic drug production in the world…And all of this matters for the United States. While its economy is small, Myanmar is strategically located between India and China. Political unrest is making it a safe haven for drug trafficking, money laundering, and transnational crime. With an underfunded health system on the verge of collapse, Myanmar is now a COVID-19 hotspot. Developments in Myanmar are of immense interest to the geopolitics of Southeast Asia and to policymakers in Beijing and New Delhi…By 2007, Myanmar was one of the least developed countries in the world. Botched currency and other reforms led to the collapse of the kyat. Though disastrous for ordinary people, the crisis was no worry for the military, whose rents and ill-gotten gains were all in foreign exchange. Inflation soared, and the price of staples went up, in some cases by 400 percent. People first took to the streets, but the Buddhist monks then took the lead. The saffron-robed monks had every reason to think that security forces would attack civilians, but were confident that the generals would not risk their own karma by ordering troops to open fire on the clergy, their path to attaining merit. Some 30 were gunned down, others were defrocked and arrested, and temples were occupied…But during the entire Saffron Revolution, the National League for Democracy — which at that point was beleaguered and harassed but still a legal entity — was absent. This was a popular uprising against a totalitarian regime that the venerable opposition leaders never saw coming and never controlled. Indeed, Suu Kyi, aware of the military’s propensity for force, counseled against popular uprisings…The Tatmadaw thinks it can wait out the National League for Democracy’s leadership to quite literally die out. And it has reason to think that the strategy could work: The league was always a vehicle for Suu Kyi, not a broad-based party. Indeed, it has done a notoriously bad job at cultivating the next generation of leaders…But is this time different? The economic contraction will hurt the mid-tier officers very hard. Even some of the senior officers are not immune from the collapse of the economy, diminished job prospects for their children, and limited opportunities (if international sanctions start to bite) to travel abroad. Their children are as addicted to their smart phones as everyone else and are likely angered by the regular internet shutdowns.”

Yesterday I sold my leveraged S&P 500 position (UPRO), and my current market positions are in American Express (AXP), Facebook (FB), Korn-Ferry (KFY), MKS Instruments (MKSI), Starbucks (SBUX), Titan Machinery (TITN), and a short position in the SPX (SPXU).