The Russian invasion of Ukraine in late February, and the ongoing political response, has clouded our outlook on equity sectors. Due to the unprecedented and volatile series of events, the economic and market landscape has become highly uncertain.
Until there is more clarity on how the sharp rise in commodity prices, tightening of financial conditions, and likely Federal Reserve interest rate hikes might impact the economy and underlying fundamentals that drive relative sector performance, we think it’s prudent to maintain sector allocations that are in line with the overall market. Therefore, we’re returning the Financials and Health Care ratings to neutral from outperform, as well as moving the Industrials and Materials ratings to neutral from underperform.
Commodity prices have surged
Prior the Russian invasion of Ukraine, there were already imbalances in the commodities market that drove prices to record highs, in some cases. The massive stimulus—both monetary and fiscal—spurred demand for commodities to the extent that supply could not keep up. This became worse as many commodity producers—particularly those in the oil and gas industry—held back production amid higher wages, surging transportation costs, and worries about a sudden reversal in prices as has happened during previous commodity price spikes.
When Russia—the world’s largest exporter of oil—attacked Ukraine, the international community responded with harsh sanctions. While the first salvo of sanctions were designed to cut Russia off from the global financial system and avoid affecting their oil exports, many refineries and energy traders refused to buy Russian oil due to the risk of inadvertently violating those sanctions, as well as in solidarity with Ukraine. Outright embargos of Russian oil imports by the U.S. and other countries cemented the boycott by the private market.