It has been almost two months since Russia has invaded the Ukraine. During this time, we have been witnessing the dramatic impact the war has had on global markets and economies. There is also concern with how these events will impact our portfolios and investments.
Inflation numbers are expected to continue rising higher and this war will put more upward pressure on inflation. Russia is a large global oil exporter. Increased sanctions on Russia will undoubtedly cause a supply squeeze in the oil market which will lead to higher oil prices. In addition, Russia and the Ukraine both account for about 25% of total wheat exports which will now be limited. This can drive up food costs on a global scale. The war will also continue to restrict supply chains. For example, planes are being diverted because Russian air space is closed to over 35 countries. Having to go around Russia, leads longer to travel resulting in increased fuel consumption and trip costs.
We have data on the stock market’s reaction to past wars and invasions (table below). Taking a deeper look at the market’s reaction to these events, we see that overall, there was market weakness leading up to each event, signalling that the market was already anticipating or “pricing in” the events to come before the event occurred. The immediate weeks and months following the event, there was a lot of volatility (which is what we are experiencing in today’s markets) which tends to linger as the market continues to assess the impact of these wars and invasions. However, looking at the longer-term returns (3 months and beyond), market returns generally normalized. Over the 12-month period, we see a market return of approx. 7.7% with a median of 9.7%.
This tells us that there tends to be some short-term volatility around these events, but long-term market returns had been driven by other major economic factors.
Source: National Bank Research, February 2022
What has been unique about the Russia Ukraine war today is the level of sanctions placed upon Russia. Judging the impact of these sanctions and if there will be any spillover effects into other parts of the global economy is still being understood by capital market analysts which is causing current market volatility.
What are the implications for Emerging Markets ETFs?
There is definite concern around emerging market equities and the impacts that Russian and Ukraine (both emerging market economies) will have on this asset class. Many investors in Canada may be holding an emerging markets ETF which is exposed to these economies and wondering how these investments specially will be impacted.
Prior to the invasion on February 23, The BMO Emerging Market Index ETF (ticker: ZEM) which tracks the MSCI Emerging Markets Index, had 3.5% exposure to Russian equities. Since the invasion, MSCI removed Russian equities from all their indices at a value of zero because the underlying market is frozen (un-investible). For investment products like ZEM which hold Russian stocks, these portfolios will still hold Russian equities for now (as they cannot be sold because the market is frozen) but will price them at $0. As some of these companies still have economic value attached, we expect that when the Russian market reopens, these equities would be sold at a price, although when and for how much is still undetermined at this time. However, because the initial weight in these ETFs to Russia was so small, the impact to overall returns from this repricing has been muted.
For a detailed version of our blog, please view our Market Insights Episode: Navigating Through A Crisis
Click here to watch now.
Commissions, management fees and expenses all may be associated with investments in exchange traded funds. Please read the ETF Facts or prospectus of the BMO ETFs before investing. Exchange traded funds are not guaranteed, their values change frequently and past performance may not be repeated.
For a summary of the risks of an investment in the BMO ETFs, please see the specific risks set out in the BMO ETF’s prospectus. BMO ETFs trade like stocks, fluctuate in market value and may trade at a discount to their net asset value, which may increase the risk of loss. Distributions are not guaranteed and are subject to change and/or elimination.
BMO ETFs are managed by BMO Asset Management Inc., which is an investment fund manager and a portfolio manager, and a separate legal entity from Bank of Montreal.
BMO Global Asset Management is a brand name that comprises BMO Asset Management Inc. and BMO Investments Inc.
®/™Registered trade-marks/trade-mark of Bank of Montreal, used under licence.