The hawkish central bank policy drove bond yields higher before investors turned to safe-haven assets such as government bonds and hedged underweight positions after the start of the war in Ukraine.

The main central banks have reaffirmed their intention to exit ultra-accommodative monetary policies. The ECB expressed heightened concern over inflationary pressures in the eurozone, while the US Federal Reserve toughened its stance from January.

However, the shock of the Russian invasion on the world economy led the markets to anticipate the risk of stagflation. Soaring energy and food prices are expected to exacerbate existing inflationary pressures, while higher inflation for longer reduces real disposable income. The extent of the negative consequences for growth will depend on the duration and extent of the conflict.

As of today, it looks like the Fed will continue with its plans to hike rates at its next policy meeting, most likely by 25 basis points. However, market participants expect the ECB to adopt a “wait and see” approach until the consequences of the current crisis become clearer. In the medium term, however, we believe that the normalization of its monetary policy remains on the table.

Bond Yields Reflect Changing Mood

The yield on the US 10-year T-note (1.78% at the end of January) rose above 2% on February 10 after January consumer price data showed a 7.5% year-on-year rise, its highest level since February 1982. The 2-year yield (1.18% at the end of January) climbed to 1.60%, its highest since the end of 2019, as it became clear that the strength of the market of labor could lead to a significant acceleration in wage growth.

After comments from Jerome Powell and other FOMC members even more determined to raise policy rates quickly (such as St. Louis Fed President James Bullard favoring a 1% rate hike by July) , market expectations have solidified.

The 10-year yield hovered around 2% through Feb. 23 before safe-haven buying and underweight hedging drove it lower.

February 24: A turning point, also in the markets

As usual when international tensions rise, markets experienced a flight to safety. Commodity prices (oil, natural gas, agricultural products) have increased. Brent crude jumped 10.7% in February to end above USD 100 a barrel, the highest since September 2014. The price of European natural gas soared 16.4% and – Russia and the With Ukraine accounting for almost a quarter of global wheat exports – wheat prices soared 21.9% to their highest level since 2012.

Given the severity of the shock and the hints of the use of nuclear weapons, the rise in the price of gold was relatively modest (+6.2%).

The performance of the various stock market indices reflects either the country’s direct involvement in the conflict or its geographical proximity.

Moscow’s MOEX index has lost 30% and the ruble has fallen 26.3% since late January. While Russia’s weight in international indices is relatively low, it represents two-thirds of the MSCI Emerging Markets Europe. This has fallen by more than 40%. Latin American equities benefited from higher commodity prices, while markets in Asia, a net oil importer, fell slightly.

Eurozone indices underperformed other major developed markets with the EURO STOXX 50 falling 6.0%. Implied volatility returned to its highest since late October 2020. The drop in US stocks was less severe (-3.1% for the S&P 500) as was that of Japanese equities (-1.8% for the Nikkei 225).

Globally, only the energy and materials sectors advanced in February. Defensive sectors (Telecommunications, Consumer Staples and Health Care) posted modest declines and outperformed the broader market. In the euro zone, financials and cyclicals (consumer discretionary, technology) experienced the largest declines.

Lower growth, higher inflation

The Ukraine crisis has dramatically increased financial market volatility and uncertainty about the economic environment – ​​just as the world was emerging from the pandemic. However, to date, the economic situation has not fundamentally changed: global demand remains strong and pandemic-related supply constraints are beginning to ease.

Economically, direct exposure (in terms of exports) of the Eurozone to Russia and Ukraine is limited. It is unevenly distributed between Member States, as is their dependence on energy imports. Any stalemate in the conflict, however, would weigh on household and business confidence and could limit growth. Nonetheless, global GDP growth is expected to remain well above the average seen before the first major pandemic lockdown, so the short-term outlook does not appear to have changed dramatically.

One factor must be monitored: the rise in the prices of energy and agricultural raw materials. This will further drive up producer and consumer prices. Central bank inflation forecasts for 2022, which were already high, are likely to be revised upwards in the coming weeks.

Bonds look overvalued; reduced shares

In this context, even though the Fed and the ECB have indicated that they will take the Ukrainian situation into account, investors may have been too quick to conclude that the central banks would abandon their plans to normalize monetary policies. Bond markets may now look overvalued relative to (strong) fundamentals.

We increased liquidity by reducing our exposure to Eurozone and emerging market equities to protect portfolios. We think our slight overweight exposure to Japanese equities and cyclical commodities remains appropriate given the current lack of clarity and the likelihood that volatility will linger for some time.


All opinions expressed herein are those of the author as of the date of publication, are based on available information, and are subject to change without notice. Individual portfolio management teams may have different views and make different investment decisions for different clients. The opinions expressed in this podcast do not constitute investment advice.

The value of investments and the income from them can go down as well as up and investors may not get back their initial investment. Past performance does not guarantee future returns.

Investing in emerging markets, or in specialized or restricted sectors is likely to be subject to above average volatility due to a high degree of concentration, greater uncertainty as less information is available, there is less liquidity or due to greater sensitivity to changes in market conditions (social, political and economic conditions)

Some emerging markets offer less security than the majority of developed international markets. For this reason, portfolio transaction, liquidation and custody services on behalf of funds investing in emerging markets may involve greater risk.