THE year 2021 ended positively for global equity markets.
The MSCI All Country World Index (ACWI), which covers around 85% of global investable equities, surged by as much as 16.8% to 754 points year-on-year, while the MSCI World Index, which captures large and mid-cap companies across 23 developed market countries, soared 20.1%.
This underscores how positive businesses, consumers and investors sentiment were at the time following the ravaging effects of the Covid-19 pandemic.
Looking at specific major indices, US stock markets posted impressive performance in 2021 as the local economy was well on its way on recovery progress. Even when the Federal Reserve did shift its stance into fighting inflation from accommodative monetary policies towards the end of the year, overall, major indices managed to profit spectacularly.
The Dow Jones rose 18.7% on yearly changes, S&P 500 climbed 26.9%, while the tech-heavyweight Nasdaq jumped 21.4%.
Across the Atlantic, the Euro Stoxx 50 surged 20.9% while the UK’s FTSE 100 Index put on 14.3%.
But it was a different scenario for countries that faced hiccups due to the Delta variant’s violent outbreak, especially those with limited vaccination access.
Some countries had to reimpose pandemic restrictions to prevent the virus from spreading as most of its populations were still unprotected against the Covid-19 virus.
Ultimately, global market players unloaded their positions in these markets, and accumulated better-positioned assets, i.e. those riding significant economic recovery.
The MSCI’s AC Asia ex Japan, which tracks developed and emerging markets in Asia, excluding Japan, contracted by 6.4% to 789 points during 2021 after posting an astonishing 25.0% gains in the previous year. The MSCI Emerging Markets was also closed in the red as it declined by 4.6% to 1,232 points.
Malaysia’s bourse was struggling albeit at a muted pace. It declined by 3.7% for the year 2021 due to the reimplementation of movement control order or MCO 3.0.
Foreign appetite towards Malaysia’s stocks was subdued for the third consecutive year as data showed a net foreign selling position of RM3.1bil following a tear-jerking RM24.6bil foreign selling in the previous year and RM11bil in 2019.
On the other side of the equation, local retailers bought a total of RM12.1bil, RM 14.2bil and RM2.5bil worth of shares during the years of 2021, 2020 and 2019.
Moving into 2022, expectations were that major central banks will start cutting their accommodative policies and possibly, sell some of their bond holdings.
This was due to the persistently high inflation engulfing economies with every new data set pointing towards multi-decade highs.
Investors and policymakers alike focused on central banks’ interest rate projection to prepare themselves towards policy normalisation.
We also need to note that while the spread of Omicron cast jitters, it did not have enough “trigger” to derail the base-case scenario.
Positive factors such as still-strong earnings and profit growth albeit lesser than a year ago, were expected to drive the stock markets weighed by the tightening path by central banks.
Risk factor
However, a risk factor emerged from the Eastern European conflict between Russia and its neighbouring country, Ukraine when Russia began amassing its troops along Ukraine’s border. And by December 2021, Russia has accumulated up to 175,000 troops, according to the US intelligence. And despite warnings of an imminent military offensive, the world was still shocked by Russian President Vladimir Putin’s decision last Thursday to launch a full-fledged military invasion of Ukraine.
In response to this, Western allies that back Ukraine imposed tranches of sanctions to punish Russia’s economy.
These involved excluding certain Russian banks from using the Swift payment system, the European Union putting the Nord Stream 2 gas pipelines on hold, the banning of transactions with the Russian central bank, and many more.
As a result, the Russian rouble went on a free-fall and was down by as much as 30% against the dollar.
The downside effects can be seen not only in the Russia’s currency, they also spilled over to the stock market. Yesterday, the MSCI Russia plunged 39% or 470 points compared to the start of the year 2022.
Inevitably, wars can hinder a proper and open economy from working well. The heavy new round of sanctions on Russia by the United States and its allies are likely to push oil prices and inflation even higher. That could be a challenge for the US Fed and other central banks, including Bank Negara, to consider interest rate hikes and add to tighter financial conditions in general.
Oil prices
A key factor that needs close attention is energy – a big driver of inflation. If oil prices get high enough, they can choke the economy. Not only will policymakers have to consider the higher cost of living it induce on consumers, it will also dampen investment returns and companies’ already tight margin after facing two years of the pandemic.
Sanctions on Russia’s banking system and other hard sanctions do not appear to be causing a broad stress in financial markets. And even though the United States did not directly sanction Russian energy, the measures taken will reduce Russia’s oil flows onto the market.
Moscow is one of the world’s largest energy producers, exporting about five million barrels a day.
It is also a major exporter of natural gas, accounting for more than a third of Europe’s supply. Whatever happens with oil will reverberate across all the other markets even though the sanctions so far are not aimed at restricting oil. They are restricting activities by buyers and financiers of oil.
Russian supplies will be disrupted, but whether they’re manageable or not, it will really be determined by upcoming events and by the risks buyers and suppliers are willing to take. At this point, the appetite is in safe-haven instruments, as reflected by yields that are coming down, while gold and silver prices are gaining.
Knee-jerk reaction
As for equity markets, the fall was a knee-jerk reaction to the Russia-Ukraine conflict. The markets are expected to tread in choppy waters before discounting this development and stage a sharp rebound.
In the past, markets tend to generally overreact to geopolitical risks. For instance, Iran’s invasion of Kuwait in 1990 saw a sharp correction in markets, and oil prices doubled.
Equity markets returned to the peak level four months later. The Kargil confrontation between India and Pakistan also saw a sharp correction in the markets in mid-1999. But markets rallied sharply after realising that this would be a short conflict.
It is evident that markets typically react with heightened volatility on expectations of a negative event, and even when the event unfolds. But as events unfold over time, there may be a realisation that the situation might get diffused. If any prospect of positive development starts to reveal itself even by small margin, the rallies in equity markets may turn much sharper. The markets will recover their lost ground and trend higher after more clarity on these events.
Keeping track
We expect the Russia-Ukraine standoff to continue in some form or other, and one should closely track its developments. The danger to markets and economy alike is if this turns into a nuclear war, however small or massive it is. It will shatter the both the markets with buying in safe-haven assets.
In the meantime, investment decisions must be taken based on the fundamental and economic scenario both in Malaysia and globally. The worst is yet to be fully discounted – a nuclear war. Should there be some positive clarity, a rebound is envisaged but it may turn into a gradual recovery rather than a sharp V-shaped one.
While the near-term scenario will continue to be choppy, the current correction provided an interesting entry opportunity for long-term investors. However, they must be mindful of the inflationary impact on corporate earnings, which might see some pressure over the next few quarters.
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