As the Russia-Ukraine situation jumps back into the headlines and the tension showing few signs of abating anytime soon, advisers and investors understandably might be starting to think seriously about the implications of the conflict on their portfolios.
With that in mind, RiXtrema Inc., a firm that runs quantitative portfolio crash-testing analysis, uncovered what could be some of the biggest losers, and even some potential winners, should the violence in Ukraine continue to escalate.
According to the firm's analysis, which assumes prolonged hostilities between Ukraine and Russia, with NATO involved by proxy, RiXtrema screened mutual funds and ETFs against a scenario of a falling ruble, spiking natural gas prices and a decline in Russian and Polish equities.
The Polish market is used as both a proxy for Eastern Europe and because the country borders the area of conflict.
The biggest losers, according to the analysis would likely be funds exposed to financial services, international equities and real estate.
“I was surprised that, among the losers, we didn't see more emerging markets and Eastern European funds, but correlations are tricky things,” said RiXtrema president Daniel Satchkov.
“This just shows how globally connected the financial system is these days,” he added. “If a prolonged conflict were to erupt, the reverberations would be felt throughout the global system.”
According to the analysis, the Vanguard Financials Index Fund (VFAIX), could ultimately fall by more than 56% as a result of a worst-case scenario in Ukraine.
Of the 10 funds most negatively affected by a prolonged and escalated situation in Ukraine, six are international funds, three are real estate funds, and all would suffer declines of at least 40%.
“REITs in general have been extremely sensitive to volatility and given the fragile housing recovery, they could be crushed by a prolonged crisis in Ukraine,” Mr. Satchkov said.
Both the Vanguard REIT Index Signal (VGRSX) and J.P. Morgan Realty Income (JRIRX) showed up as potentially falling by nearly 48%.
On the flip side, there are strategies that are well-suited to thrive under the Ukrainian conflict scenario.
Long-duration Treasuries, commodities and gold funds topped the list of potential winners.
“Russia is an important commodity supplier and prolonged hostilities have the potential to disrupt both natural gas and oil markets,” he said. “While gold hasn't proven to be a safe haven asset in times of deleveraging crises, it still holds significant safe haven appeal in military conflicts.”
The Pimco Extended Duration Fund (PEDPX), American Century Global Gold Fund (GEGIX), and Pimco Enhanced Duration Fund (PEDIX) would all gain more than 25%, according to the analysis.
The top 10 funds among the winners would all gain at least 16% under a scenario of an extended escalation in Ukraine, according to the RiXtrema analysis.
These worst-case scenarios are based on forecasts that include a 40% drop in Russian stocks, a 35% drop in Polish stocks, a 25% decline in the Russian ruble, a 25% increase in the price of crude oil and a 50% jump in the price of natural gas.
A key element is trying to gauge the ultimate course and duration of the conflict.
“Right now, it's still a battle between economics and finance versus geopolitics, and in this case I think economics and finance wins,” said Eric Leve, senior vice president of international equity research at Bailard Investment Management.
“Even though [Russian President Vladimir] Putin is an imperialist in the extreme, I do think the economic reality will rule the day,” he said. “Either something crushing happens or it doesn't, and if it doesn't, I'm proven right.”
In the event the turmoil escalates into a full-scale war, Mr. Leve said, “Everything is off the table, and I'm dead wrong.”
John De Clue, chief investment officer at U.S. Bank Wealth Management, prefers to look at Ukraine in terms of time-frame scenarios.
“Longer-term and in a macro sense, the risks are somewhat significant,” he said. “But the short-term impact is limited to general risk-off tendencies because people don't like uncertainty.”