Dear Reader,
Napoleon, Hitler, and now Putin. Invading Eastern Europe never ends well for anyone. But does that still apply when the Russians do it to themselves?
Stock markets couldn’t quite make up their minds this week as they stumbled, rose, and then tumbled on news out of Ukraine.
At first, there was hope Putin would stop in Donbas, which we’ll take a closer look at below. But then Putin stepped over the real red line. One that runs through Ukraine, not around it.
Is it time to sell out and run for the hills?
Perhaps. But I’m not so sure that’s the right response for Aussie investors. Let’s dig into why…
According to the news (as I write this), Ukraine is in for a full-scale invasion by Russia, or at least a war. This obviously threatens a broader war in Europe, not to mention between nuclear powers.
But it’s not that simple. This is actually the culmination of at least eight years of war.
To help illustrate the point I’m trying to make, let’s play a game, shall we?
Can you guess when these news stories about Ukraine were written?
We’ll start with a BBC story, which had the headline ‘How many Russians are fighting in Ukraine?’.
Well, ‘the latest estimate by US Lt Gen Ben Hodges, commander of the US Army in Europe, says 12,000 Russian troops are operating inside the neighbouring country.’
But what year was the story published?
Hint: it’s not the ‘latest estimate’ anymore…
The Kyiv Post reports ‘An ex-member of Ukraine’s military intelligence says over 120,000 Russian troops are currently deployed in occupied areas of Donbas, eastern Ukraine.’
That number sounds familiar. But when did he say so?
Ukraine’s helpful Ministry of Foreign Affairs says:
‘The number of regular Russian troops in Donbas is between 3,6 and 4.2 thousand troops.’
It’s one of their ‘10 facts you should know about Russian military aggression against Ukraine’.
But when were these 10 facts published?
The Atlantic Council headline says ‘Russian Troops Lead Moscow’s Biggest Direct Offensive in Ukraine Since August’.
Since August!? They already invaded in August? Of what year?
The New York Post reports that ‘Russian tanks roll through outskirts of Donetsk’. If that sounds familiar, and it should, you might be wondering when you first read about it.
I could go on, but you get the idea, right?
These headlines are from between 2015 and 2019, not 2022. They show that Russian troops have been busy in the ethnically Russian part of Ukraine, known as Donbas, for about eight years. According to the same Western politicians who were having a fit about Russian troops suddenly invading Donbas on Tuesday…
Putin’s ploy was to leverage a plausible scenario — one that sent many stock markets rallying on Wednesday (depending on which timezone you live in). After all, either Russian troops had been in Donbas for eight years or an invasion of Donbas had just happened, but not both.
It appeared Putin was not going to take on the part of Ukraine that is actually controlled by the Ukrainian government…that his war machine would stop inside Donbas. And so markets breathed a sigh of relief.
But then Putin put a toe, an air force, and a bunch of missiles over the big, fat red line. He went beyond Donbas and began to mess with the rest of Ukraine. And so stocks plunged on Thursday, for real this time.
If you ask me, this is one hell of a gamble on Putin’s part. It is a very big punt that Europe is so weak that it lacks the desire to do anything about it. And that Europe can persuade the US to (fail to) respond likewise.
In other words, it is a punt on the price and supply of gas — a commodity that Australia happens to have a lot of. Back to that in a moment.
Russia is the world’s largest energy exporter once you combine oil and gas together. Depending on whose figures you use and the definitions you quibble over, Russia is the second-largest gas producer and the third-largest oil producer, accounting for 17% and 12% of the global output (respectively). This is after substantial drops in 2020.
As the financial blogging sensation Doomberg is fond of pointing out, gas is not a global commodity. The price divergence between gas in Europe and the US demonstrated this nicely.
Europe is especially reliant on Russian gas. And Europe’s gas reserves were already dangerously low going into the war.
Indeed, German electricity prices were already out of control when Putin looked to be stopping the tanks in Donbas. Oilprice.com reported that ‘Nearly one-fourth of Germany’s medium-sized enterprises fear they might not survive the soaring energy prices, a survey by the Federation of German Industries, BDI, showed on Monday.’ They’ve since gone parabolic. Likewise for the rest of Europe.
The Bloomberg Commodity Index just hit all-time highs. There’s an aluminium shortage and Russia provides 4% of global supply. And so on and so forth.
The point is, Europe made itself reliant on Russia. And now Russia is testing this leverage.
That’s why Germany’s suspension of Nord Stream 2 in response to the invasion was only temporary. The Germans need the gas. Especially if they want to continue their anti-nuclear policy.
The Nord Stream 2 pipeline would increase Russian gas exports by about a third. Now, if you ask me, I’m not sure the Russians really mind whether they sell a lot of gas at high-prices, or less at really really high prices. But I know what the European consumers would prefer…
(I also know what Aussie investors prefer.)
Meanwhile, recent trouble in European bond markets and inflation are creating the perfect financial storm to add to the commodity pressure. Throw in Ukraine’s huge food exports and you get the potential to turn the energy crisis into a food crisis over spring.
So while Putin may be risking a lot in his invasion, the West has everything to lose itself when it decides how to respond.
But where to for investors in all this?
Australia is, of course, poised to benefit economically from the instability in Europe. We export a lot of gas and other natural resources that won’t be disrupted by Europe’s latest war, even as prices surge.
This means that Aussie investors face a choice on the Australian Stock Exchange and in their household bills. They can pay for or profit from the conflict, depending on which stocks they own.
If this crisis continues, profits in oil, gas, gold, food, and metals stocks should offset your rising energy bill and losses elsewhere.
Until next time,
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Nickolai Hubble,
Editor, The Daily Reckoning Australia Weekend
