English Markets

War in Ukraine and the views of Carmignac and Shiller (Q1 2022)

One should be careful with concentrated ETFs as we have seen during this first quarter in case of ETFs focused on Russia, but also on a specific region (Eastern Europe) or on a theme (BRIC).

The first part of this quarterly market update summarizes the impact on ETFs of the onset of the crisis caused by the Russian invasion, which again demonstrates the importance of a diversified portfolio.  In this uncertain environment, the second section offers some long-term investment advice from two financial market experts: the French benchmark Carmignac and the American professor Shiller. 

The impact of the crisis on ETFs and private investors

With the war in Ukraine and the sanctions against Russia, investors are experiencing significant losses in Russian stocks and bonds. As Russian stocks such as Gazprom, Lukoil or Sberbank are not tradable, the investment products in which these securities were included have been heavily affected.

The closure of the Russian stock market in early March created a gap between the price of some funds and the value of their underlying assets.  BlackRock suspended the creation of new shares of its iShares MSCI Russia ETF (down about 70%). Other providers will liquidate their Russia funds considering the inability to conduct their business and operations in an economically efficient manner. Thus, concentration or betting on a single country such as Russia would have proved catastrophic.

Even an index focus could have been disastrous: while funds that focus on benchmarks such as MSCI Russia are fully invested in Russian stocks, Eastern European funds would often have more than a 40 percent share of Russian stocks. The collapse of Russian stocks would not have spared broader universe funds like the BRIC funds (short for Brazil, Russia, India, China). These funds were typically invested in Russian stocks by about 20%. 

Emerging market equity and bond funds, such as some ETFS, also often have some Russian holdings in their portfolios in line with the index they track. Prior to the invasion, Russian stocks accounted for 3.2% of the MSCI Emerging Markets (in late January). As a result, index providers like MSCI have signaled that they may remove Russia from several of its widely followed equity indices, including those that track emerging markets like the MSCI Emerging Markets. Despite these changes, investor losses remain, but to a lesser degree than in a concentrated fund.

Guidance from two market oracles: Carmignac and Shiller

Edouard Carmignac is a patriarch of French finance and the founder of the fund line that bears his name. For the stock market year 2022, he expects China to be the most attractive financial market: “Its stocks, bonds and even its currency could be among the big winners of 2022”. The fact that the centralized state is currently tightening its grip on technology companies does not worry Carmignac too much. He believes that the biggest interventions have been digested and that the state has served its purpose of strengthening its power base.

Economist Robert Shiller is the recipient of the Bank of Sweden Prize in Economic Sciences in memory of Alfred Nobel (commonly misnamed the Nobel Prize to inflate its importance). He introduced the Shiller ratio (Cape), which is the ratio of a company’s share price to the average inflation-adjusted earnings of the previous ten years. In his opinion, the situation is not very good for the US stock market in view of the high prices, except for consumer staples, financials, industrials and real estate, and he recommends continuing to put money into the stock market within certain limits. However, he does not believe in overweighting the domestic stock market or technology stocks.

Staying the course

This crisis reminds us that ETFs, even if they are the vehicle of choice for private investors, need to be diversified, and that in case of more pronounced investment, a strong concentration deviating from the proportions of the global index is dangerous, as with an ETF concentrated on Russia, on a specific region (Eastern Europe) or on a theme (BRIC) during this first quarter.

This crisis, coupled with rising interest rates, favors value stocks with better valuations than growth stocks. Value stocks generally have smaller losses in the event of a correction (even if they profit less in a bull market). Another option is to slightly favor regions with lower valuations such as the UK, Japan, or emerging markets in general.

Many private investors have been confused by the invasion of Ukraine. However, you should continue a regular global index investment strategy if you are a beginner.  For more experienced investors, the volatility of the markets may allow for some attractive entry points at first glance. Be careful, however, not to make too many big bets and to stick to your strategy even if you occasionally allow yourself to load up a bit more on certain investments.

China wird im nächsten Jahr der attraktivste Finanzmarkt sein, NZZ am Sonntag, 30.12.2021
Es gibt Parallelen zum Jahr 1929, Neue Zürcher Zeitung, 26.1.2022
ETFs Exposed to Russia Plunge, The Wall Street Journal, 02.03.2022
Das Thema russische Aktien ist tot, Investoren drohen auf russischen Wertpapieren sitzenzubleiben, Neue Zürcher Zeitung, 9.3.2022