by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM EDT] | PDF

Our Comment today opens with an update on the Russia-Ukraine war, including more fallout for the world’s energy and food supplies.  We next review a wide range of other international and U.S. developments with the potential to affect the financial markets today, including new signs of labor unrest across the globe, and a preview of the Federal Reserve’s latest monetary policy decision, due later today.

Russia-Ukraine: Russian forces are again seizing incremental territory in Ukraine’s eastern Donbas region. They are likely to consolidate control over the region so they can hold a contrived referendum on annexation there on Russia’s national election day in mid-September.  The Russians also continue to launch long-range missile strikes against a variety of targets across Ukraine, but especially in the southern region around Ukraine’s grain-exporting ports.  Meanwhile, Ukrainian forces continue to attack Russian ammunition depots, logistics centers, and personnel concentrations, as well as a key bridge running into Kherson, an occupied city in the country’s south that Ukraine is attempting to recapture from the Russians.

• U.S. and other NATO officials continue to signal that they are shifting their position toward supplying Ukraine with advanced fighter jets and training pilots to fly them in the coming months.  The changed posture stems in part from Ukraine’s tenacious battlefield performance to date and a tacit understanding that Kyiv is likely to lean closer to the NATO alliance in the future.
• Meanwhile, U.S. officials are redoubling their efforts to convince China, India, and other countries that have been buying up cheap Russian crude oil to sign on to a low-price cap for the product.  The plan aims to supplant the Western countries’ scheduled ban on insuring tankers carrying Russian oil beginning in December, in a move U.S. officials fear would lead to a new spike in oil prices and ultimately provide more funds to Moscow.
• Separately, European natural gas prices are continuing to spike in response to Russia’s latest cut in supplies.  As of this writing, the European benchmark gas price is up some 12% to the equivalent of $231.17 per megawatt hour.  The benchmark price has now risen approximately 37% this week alone.
  • In response to the price surge, German chemicals giant BASF (BASFY, $10.61) said it would reduce its production of ammonia, a gas-intensive product that is a key ingredient for many fertilizers.
  • The production cut is a reminder that Europe’s energy crisis also feeds into the evolving world food crisis.  Reduced supplies and higher prices for fertilizers are already affecting food production around the world.
• Finally, in another aspect of the Western sanction regime, the Wall Street Journal reports that auditors trying to avoid running afoul of the sanctions are demanding that their clients promise they have no significant connections to Russians or Russian firms.  Sanctions experts and some corporate board members say the auditors are going beyond what is necessary and could be placing legal liability on their clients if authorities question their Russia connections.

Global Labor Market: In another sign that tight labor markets have emboldened workers all over the globe, several new strikes or strike announcements have popped up in recent days.  Taken together, the actions illustrate how labor shortages are giving increased bargaining power to workers, raising costs for companies, and potentially signaling lower profit margins.

• In Germany, ground crew for Deutsche Lufthansa (DLAKY, $5.92) have gone on strike over a wage dispute.  The action has forced the airline to cancel nearly all flights at its big hubs in Frankfurt and Munich.
• In the U.K., railroad employees have staged another massive one-day strike over pay, job security, and working conditions.  The strike follows three similar one-day strikes last month.
• Finally, in the U.S., a union representing 2,500 machinists at three defense plants owned by Boeing (BA, $155.92) has voted to go on strike beginning August 1.  The impending action at facilities near St. Louis aims to fight Boeing’s plan to phase out its automatic contributions to the machinists’ 401(k) accounts.

Italy: With polls showing right-wing parties are likely to form Italy’s next government after elections in September, European Union Economics Commissioner Paolo Gentiloni warned that the EU would not renegotiate the fundamentals of its €200-billion pandemic relief plan for the country, and that Rome must stick firmly to the reform pledges made by lame duck Prime Minister Mario Draghi in order to receive the money.  The statement sets up a possible conflict over the funds once a new government is in place, potentially undermining Draghi’s economic reforms and depriving Italy of major financing for big infrastructure changes and other investments.

Hungary: Prime Minister Viktor Orbán, a darling of the world’s growing right-wing populist movement, has touched off an international backlash over comments he made decrying Western “mixed race” nations and warning Hungarians not to intermarry with “non-Europeans.”  The statements are likely to further exacerbate Hungary’s ties with the rest of the European Union.

Tunisia: The country’s electoral commission said nearly 95% of voters approved Tunisia’s new constitution in a referendum this week.  The new constitution provides virtually dictatorial powers to populist President Kais Saied, essentially tearing up the democratic reforms launched in Tunisia after the Arab Spring uprising in 2011.

El Salvador: Yesterday, President Nayib Bukele announced that his country will use some of its international reserves and financing from a regional lender to buy back $1.6 billion of its sovereign debt coming due in 2023 and 2025.  The plan aims to take advantage of the bonds’ current low prices as investors fret about a potential default by the country.  The plan also comes as El Salvador’s intention to sell an exotic $1-billion bond, which bet on a rise in bitcoin’s value, stalled when the crypto asset fell sharply in recent months.

United States-China: With tensions rising over House Speaker Pelosi’s potential trip to Taiwan to show support for the island as it comes under increased pressure from China, the White House said President Biden and Chinese President Xi will talk by telephone tomorrow.  Meanwhile, Chairman of the Joint Chiefs of Staff Gen. Mark Milley said he worried that a Pelosi trip could touch off a crisis, but that the U.S. military is always prepared to support lawmakers’ trips and ensure they are safe.

U.S. Monetary Policy: The Fed today ends its latest two-day monetary policy meeting, with the decision expected to come out at 2:00 pm ET.  The officials have signaled they will hike their benchmark fed funds interest rate by another 0.75% to a range of 2.25% to 2.50%, and investors widely expect further aggressive rate hikes through the end of the year before the officials reverse course sometime in 2023.

• Reflecting those expectations, the yield curve remains inverted.
• As of this morning, the yield on the 2-year Treasury note stands at 3.061%, while the yield on the 10-year Treasury stands at 2.801%.

U.S. Technology Sector: Yesterday, the Senate voted 64 to 32 to advance a $280-billion package of subsidies and research funding to boost U.S. competitiveness in semiconductors and advanced technology.  A particular focus of the bill is to spur more investment in U.S. computer-chip factories, reducing the country’s dependence on foreign chips.  If the measure passes a final Senate vote as expected today, it will then have to be passed by the House before being signed into law.

• Separately, Director of the Consumer Financial Protection Bureau Rohit Chopra warned, in an interview, that big technology companies’ entry into the buy now, pay later lending business could undermine competition in the nascent sector and raise questions about the use of customer data.  The statement points to a new vector for regulatory risks facing big technology firms.

Meanwhile, technology firms Alphabet (GOOG, $105.44) and Microsoft (MSFT, $251.90) posted better-than-expected earnings last night, suggesting their post-pandemic retrenchment may not be as bad as anticipated.  The results have helped give a boost to U.S. equity markets so far today.

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