Is Putin Mad?

Its easy to get caught up in the Russia/Ukraine news and market implications, but every 15 minute geopolitical expert has pined their views over and over, so I'll give you mine a bit later in this post. 

I was listening to a Quoth the Raven podcast yesterday, with guest Ben Hunt.  He was talking about the Ukraine war, and how prices/valuations are determined by stories, and one of the stories that the market often repeats is when it faces an obstacle, and volatility increases and prices go down. But eventually, the market overcomes the obstacle, and during that process, stock prices go up.  

That made me think about the obstacles for the market in 2022.  First, it was the Fed turning hawkish, starting with the Fed minutes from the December meeting released in early January, which started this downturn.  And it continued as the market kept pricing in more rate hikes and stock jockey central bankers like Bullard giving his 2 cents and talking more rate hikes, multiple hikes.  Bullard even got specific, saying he would like the Fed funds rate to be at 100 bps by July 1.  

In the middle of all this, the market was thrown another obstacle, the Russian invasion of Ukraine, which many suspected for several weeks before it eventually happened, despite denials from Putin the whole time.  People were mocking Biden for scaring the market by saying that Russia was getting ready to invade, and it wasn't happening right away.   

As the negotiations between Putin and the EU/US kept failing, and the US intelligence kept repeating news about more and more Russian troops at the Ukraine border, the market was sensing a war could happen any day.  And with any bad news, it usually comes out overnight, and the futures tend to have a kneejerk selloff, and it did last Thursday.  And it did it again on the Russia central bank asset freeze/SWIFT ban, stoking up counterparty risk fears, and talk about another Lehman 2008 / Covid March 2020 moment on Sunday overnight/Monday morning.  And yesterday and today, another one with crude oil surging higher as Russia can't seem to sell its oil, even though oil falls outside of the scope of the sanctions.  

At this point, it seems like a total mess, but if you look at the SPX chart, while the news seems much worse now than it did in late January, we're basically back at those late January price levels of SPX 4280-4400.  But now, sentiment is much more bearish, there's been more time for fast money fund managers to reduce their equity exposure, and you have the market much more prepared for further downside.  The news flows seems much more horrible, but here's probably the most important difference:  bond yields are much lower, especially the last 2 days as the market is now pricing in a less hawkish Fed and ECB with all the geopolitical uncertainties.  Lower bond yields are a positive, a less hawkish Fed and ECB are a positive, even if it only lasts a few months. 

So you have less hawkish central banks even with oil surging way above $100.  Bond yields are much lower.  And investors are much more bearish.  Yesterday, I was listening to CNBC Halftime Report, and 2 of the guests were both looking for the market to chop around these levels, even looking for a retest of last week's lows, but they expect that the market will eventually go higher after a few weeks, after the Fed raises rates.  Its seems they are not fully invested.  Well if they are going to wait for the bad news to stop, or for the market to stop caring before increasing their risk exposure, then they'll have to pay higher prices for the certainty.  

Eventually, there will be a resolution to the war, Russia can't fight forever.  They can't even produce most of the military equipment and weapons without importing high tech parts from the EU.  They'll eventually run out of conventional firepower.  So they go nuclear after that?  Putin going nuclear basically assures the end of his regime, and he knows that.  There is already so much global backlash at Putin due to the Ukraine invasion, imagine how much worse it will get if he uses nukes.  The whole Western world will be looking to eliminate Putin from power, dead or alive.   

Really that's the only uncertainty left for this market, whether Putin goes nuclear or not.  And that's a black swan event, but there is no incentive for him to do that unless he wants to go out with a bang.  But based on how scared he is of Covid and how far he literally distances himself from those around him, I don't think he's looking for a death wish.  Even as delusional as he is, he knows that going nuclear will be the riskiest move he's ever made, with a substantial probability that it ends his regime.

Many are saying Putin is a mad man, unpredictable, and apt to do crazy things.  He's not mad, he's just out of touch with current events.  His inner circle are a bunch of yes men who don't give him an accurate view of what's happening.  He invaded Ukraine because he thought it would be easy, the world wouldn't really care, and would let him take it without consequences, like the other small wars that he fought before.  And even with sanctions, he won't change his view, unless he feels his reign is in jeopardy.  He was so secure that he would stay in power, that he didn't even consider the risk that a Ukraine invasion could possibly backfire and potentially lead to his downfall.  

I don't know how much he's going to invest in the Ukraine war, but at this pace, he won't be able to go on for long.  Eventually they'll run out of conventional weapons and military equipment.  Unless China steps in to provide it to him.  Don't think Xi will want to do that, considering how much the world is against the war.  Plus, China is a net importer of energy and commodities, so this war is hurting them economically.  Unlike other dictators like Xi and Kim, Putin doesn't have the same logistical capabilities to get his population completely under control.  If the war drags on and the Russian economy falls into a depression, there could possibly be uprisings or a coup. 

I have a full SPX long position and just waiting out the turbulence.  Bond market strength is a positive, and its a much bigger factor than crude oil prices rising.  Financial markets are a rich man's game.  Higher oil prices negatively affect poor people, not rich people.  Bond prices affect rich people, not poor people.  Higher oil prices are a stock market negative if and only if it makes the Fed more hawkish.  Based on the moves in the bond market, it appears that the market is sniffing out a less hawkish tightening cycle due to the Ukraine war.  That's the most bullish development I see over the past 3 days.  Much more important than any Russia SWIFT ban or Russia default concerns.