Risk Commentary
A Quick Turn of Events/ Hope on the Horizon, Dunkin vs. Starbucks, and Ukraine
Overview – We aim to provide readers with an intellectual framework for evaluating major factors driving the institutional investment market. The report seeks to address complex issues but in an understandable manner. Lastly, we will only issue a report if we have something cogent to write.
I-A. Quick Turn of Events
As of 18 months ago, economists were praying for a pick-up in inflation and some relief to facilitate the end of Quantitative Easing and the huge overhang of negative interest rates. Today, most economists are praying that inflation moderates below 5% and that there are no more 75 basis point increases by the FED. Understanding is key for any competent risk manager, thereby raising the question of why and how events shifted so quickly. While a full rendering of the reasons might take years, we will present our view of the major drivers:
Post-Covid Demand Rebound – the COVID crisis falsely depressed demand and increased savings such that with its end, consumers were anxious to spend.
Depressed Energy Availability – the policies of the current administration (e.g., restricting drilling on federal lands) and sanctions on usage of Russian energy has restricted supply and increased prices. While WTI intermediate is trading near $109, it was only a short time ago that petroleum dipped into negative territory (because of disruptions in storage capacity).
Workforce Reductions – the retirement of many baby boomers and the reduced workforce participation post COVID to 62% (see below) has placed pressure on compensation levels.
Ukraine War – in a narrow sense, wars use government funds with little direct economic benefit; the contrary view is that the expenditures are the cost of protecting democracy. Regardless, there is a cost of the expenditures, wars reduce output from the impacted areas, and there are the eventual rebuilding costs. While the US is shouldering much of the costs, some are questioning the relatively low level of engagement of some countries in Europe which appear to have a greater stake in the outcome
I-B. Hope on the Horizon
While many of the above factors are concerning, some are likely to ease in the near future. As the Post-COVID boom wanes, people are likely to moderate spending and rejoin the workforce. Technology continues to improve and some of the more mundane jobs are being automated (e.g., the usage of self-checkouts in retailers and the eventual acceptance of self-driving trucks and taxis). On the energy front, the development of improved batteries (e.g., lithium sulfur batteries) promise a dramatic improvement in range, and a likely acceleration of a shift away from petroleum-based propulsion. Lastly, it appears central bankers remain concerned about the level of interest rates as judged by the ECB’s emergency meeting concerning the level of Italian interest rates.
II. Dunkin vs. Starbucks
James Carville, the well-regarded political strategist provided some wisdom concerning political campaigns with the quote “It’s the economy. stupid”[1]. Our point is the aspirations of Progressives might be curtailed given the tough economic conditions currently. The near doubling of gasoline prices is likely to have political consequences in the mid-term elections. The upshot is likely to be a moderation of ambitions over the next couple of years
III. Ukraine - Likely Next Steps
The Ukraine War has major implications and it appears Russia is making steady progress in the East. Apparently, Russia has a massive advantage in artillery. The outcome is likely to turn not only on the will of the Ukrainian fighters, but also the level of support provided to them.
[1] https://en.wikipedia.org/wiki/It%27s_the_economy,_stupid
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