The volatility of the first quarter of 2022 slammed the markets in reaction to the world’s geopolitics. All macroeconomic forecast models are under revision. All expectations of a central bank’s monetary policies shifted and are now less predictable. Our Federal Reserve has a trajectory of rate hikes but remains cautiously “data driven.” Inflation forecasts have been uprooted. Whatever was projected at year end 2021 is out of date. The Fed’s March meeting ¼-point hike was “baked in,” and the Fed delivered.
There are four major elements. First and foremost, we witness the daily reports from a shooting war in the Ukraine-Belarus-Russia region, where Ukraine is attempting to defend itself against a philistine army invasion launched by a soon-to-be 70-year-old dictator in Moscow. History will now record Putin as responsible for what will likely become a generational change in European affairs and in global finance. This is not a temporary or interim development. This is not a “short-term” trade. This is the onset of a multi-decade action/reaction scenario for the economies and markets of the entire world. We note that war is unpredictable. As this is written, market agents are looking for some type of ceasefire; that is what markets see as a potential positive. The dominant fear is that Russia will use tactical nuclear weapons or chemical/biological warfare; that is what markets see as the worst possible negative. All outcomes are unknown.
The second element is in global financial systems. The massive and worldwide organized sanctions against Russia continue to unfold. Russia is now an economy and government facing possible default. The Russian invasion has changed the international financial order permanently. The tools used are without precedent in global financial history. And the coalition of the Western countries seems strongly committed to the new global posture and the use of financial tools as weapons in a global war. So the shooting war is in a region in Europe, but the financial war is truly global. The financial war is unfolding every day with new information, so outcomes are difficult to predict, and unintended consequences loom as a risk every day.
The Federal Reserve works with the US Treasury in this application of global financial tools of war. The Fed is an implementing arm not a decision-making arm of the United States. Chair Powell confirmed that publicly. The Fed has been and always will be an instrument of the United States when it comes to the implementation of policy under war conditions. That was true in World War 1 when the very young Fed helped finance the war by promoting war loans. It was true in World War 2 when the Fed held interest rates constant for four years and enabled the United States to finance the World War 2 effort. Note that the Fed kept policy constant throughout the four-year World War 2 period even as the inflation rate reached a peak of 10% and even as the deficit/GDP ratio crossed 100%. When it comes to war, the Fed is a patriotic American institution. We expect the Fed to maintain functioning financial markets and to stress stability as the global shocks unfold from sanctions and war. That means the Fed will address domestic US inflation steadily and in a predictable way. You saw that when Fed Chair Jerome Powell testified and included the indication that a quarter-point rate hike was coming. He has delivered exactly what he offered in advance. You have seen it again in the trajectory offered in the latest Fed dot plots. In my personal view, Powell’s performance during the Covid period and now in the wartime setting and in the midst of a global sanctions crisis has been stellar and worthy of national applause.
An unfortunate event is how the politics of the divided Congress were used to hold up the confirmation of Fed appointees in a time of war. The unique 50-50 split in the US Senate means that the committee vote to release a nominee to the full Senate for a vote requires a quorum, and either side has the power to disrupt the committee by simply not showing up. Thus, five Fed nominees couldn’t get to a full vote on the Senate floor. Four of the five are without controversy, and that includes the reappointment of Chair Jay Powell. Senator Joe Manchin has now declined to support Sarah Bloom Raskin, and she has withdrawn her name. Certainly, Jerome Powell will be confirmed for his full term, and the other three nominees will be confirmed. As this is written there will likely be a Fed Board vacancy for months; and the position of vice-chair of supervision, for which Raskin was nominated, is likely to remain vacant. Financial markets are looking past this disruption and assuming that the functioning of the Fed will be unimpaired, since Powell is serving as temporary chair while he awaits confirmation for another term.
The third area is Covid. No one in America wants to talk about it. US politics around Covid are so fraught that the Congress was been unable to find enough votes to include the $15.6 billion Covid health and research supplement in the $1.5 trillion continuing budget resolution. This is a sad commentary on our country. In the midst of a pandemic, in a nation with a $22 trillion GDP, the American legislative system cannot find a middle ground to continue the funding needed to allow America to protect itself and help the world fight a disease that threatens all of us. The result is a weakening of US data gathering and analysis; and worse, the stalemate triggers a national abandonment of Covid mitigation, treatments, and caution.
Covid isn’t over, as reports from around the world confirm. Bloomberg reports that 9 million jobs have disappeared in Asia due to Covid. Crematoria are at capacity in China. Countries like South Korea and Vietnam have Covid surges, although their vaccination rates and health mitigation efforts have resulted in far fewer deaths per capita than in the United States.
The BA2 variant is surging in many countries and is starting to become dominant in some places in the US. Wastewater surveillance is a leading indicator of what lies ahead. It currently (March 16) shows the BA2 variant rising in numerous American counties. According to “Wastewater data from Biobot Analytics, Inc.” in Providence County, RI, BA2 has reached 33.5%; in Seminole County, FL it has reached 33.4%. Orange County, Florida, on March 12, wastewater derived Covid estimates are 8 new cases per 100,000 people. These counties were at zero for BA2 last month. Note that Orange County, Florida, is the home of Orlando and the tourist attractions that draw visitors from around the world. There is little Covid mitigation public health policy of any type in Florida except that which an individual self-imposes. BA2 doesn’t appear in all wastewater testing in America. The history of Covid suggests that is likely to change. We will be watching the statistics for a possible Covid surge in the second quarter of 2022.
The fourth and last area that has come under siege is climate change and the prospects for addressing it. While the latest scientific data is intensifying the warnings about climate change outcomes, the events of war and sanctions have replaced climate change as a major headline subject. Other than extreme weather events, climate is not in the lead of the news. Meanwhile, the efforts at climate change adaptation have progressed slowly, and conditions worldwide appear to be worsening. We are not sanguine about this outlook. Planet Earth is on a path of change that ignores politicians and is indifferent to a dictators’ militaristic wishes. Therefore, the likelihood of more extreme weather events and the dislocation of hundreds of millions of people around the globe is certain to grow.
In our US Equity ETF portfolio we continue to emphasize overweighted positions in the four themes listed above. They are aerospace-defense including semiconductors; healthcare; climate-sensitive industries; and, lastly, banks and financials.
David R. Kotok
Chairman & Chief Investment Officer
Email | Bio
Links to other websites or electronic media controlled or offered by Third-Parties (non-affiliates of Cumberland Advisors) are provided only as a reference and courtesy to our users. Cumberland Advisors has no control over such websites, does not recommend or endorse any opinions, ideas, products, information, or content of such sites, and makes no warranties as to the accuracy, completeness, reliability or suitability of their content. Cumberland Advisors hereby disclaims liability for any information, materials, products or services posted or offered at any of the Third-Party websites. The Third-Party may have a privacy and/or security policy different from that of Cumberland Advisors. Therefore, please refer to the specific privacy and security policies of the Third-Party when accessing their websites.
Cumberland Advisors Market Commentaries offer insights and analysis on upcoming, important economic issues that potentially impact global financial markets. Our team shares their thinking on global economic developments, market news and other factors that often influence investment opportunities and strategies.
