Daily Comment (March 4, 2022)
by Patrick Fearon-Hernandez, CFA, and Thomas Wash
[Posted: 9:30 AM EST] | PDF
Good morning! In today’s report, we continue our coverage of the Russian invasion of Ukraine. We next discuss some non-Ukraine news, including the Iran nuclear deal and the upcoming election in South Korea. We conclude with our pandemic coverage.
Russian forces continue to make advances in Ukraine. After intense fighting, Russian troops took over the Zaporizhzhia nuclear power plant on Friday. The attack at the power plant sparked concerns about a possible nuclear explosion after a fire broke out. Ukraine has 15 nuclear sites, and attacks on the country could raise the possibility of another Chernobyl. Following the attack, the U.N. nuclear watchdog stated there was no radiation release, relieving concerns of a possible nuclear crisis. In addition, Russia appears to be making inroads in Ukraine’s second- largest city of Kherson and the southern city of Mariupol; however, the convoy outside Kyiv remains stalled.
As Russian troops continue their fight with Ukraine, Putin is struggling to maintain alliances. In a phone call with Saudi Arabia’s Crown Prince Mohammed bin Salman, Putin urged OPEC not to politicize the global energy supply. The comment was meant to dissuade Saudi Arabia from using the war as an opportunity to take more market share, while Russia is struggling to find buyers for its oil. Currently, there are potentially two countries with excess capacity that have the ability to take advantage of the situation, Saudi Arabia and the United Arab Emirates, and the West is pressuring them to boost production. Additionally, higher prices are also an opportunity for both countries to cash in on their oil. If this would happen, Russia’s economic woes would likely worsen, as it may be forced to sell its oil at an even steeper discount. As a result, it isn’t clear that the OPEC and Russia’s alliance, also known as OPEC+, can be sustained as prices continue to rise.
In addition to potentially losing OPEC as an ally, it appears other countries are becoming more cautious regarding aligning themselves with Russia. China’s infrastructure investment bank has halted all business with Russia and Belarus. The move is to reduce exposure to Russian assets as the fallout from the Ukraine invasion persists. China is still trying to contain the collapse of its property market, so its appetite for risk is limited. Furthermore, the possibility of sanctions from the U.S. forced India to cancel its orders for Russian jets. Lastly, Putin’s relationship with Turkish President Recep Tayyip Erdogan has frayed after Turkey sold drones to Ukraine for its fight against Russia and has locked Russian warships out of the Black Sea. As Russia becomes more isolated, its need for a quick conclusion to the Ukraine war becomes more dire.
Although there are concerns that Russia will eventually retaliate against countries, the drawn-out war makes that outcome less likely to happen. Prior to Russia’s invasion into Ukraine, there were fears that Putin would stop supplying Europe with gas in retaliation for the sanctions. However, that will probably hurt Russia even more than the sanctions. Although Europe purchases 40% of its gas imports from Russia, Russia depends on Europe for trade. In 2020, 37% of Russia’s global trade went to Europe. Thus, cutting off Russian gas to Europe, especially when other countries are reluctant to buy it, is becoming a less viable option as Russia’s economy suffers the consequences of the country’s invasion of Ukraine. In the meantime, it appears Europe has started taking steps to diversify its supplies away from Russia. The EU is set to adopt a new strategy to help boost its energy security and prepare for disruptions.
- Saudi Crown Prince Mohammed bin Salman, also known as MBS, is resisting pressure from the U.S. to increase oil production in an attempt to gain concessions from President Biden. MBS wants the President to recognize him as the rightful leader of Saudi Arabia and provide his country with weapons to fight Houthi rebels in Yemen. The U.S. has been urging OPEC, which includes Saudi Arabia, to increase output even before the Ukraine crisis. However, the Russian invasion has made the situation more dire, as oil prices have risen above $100 a barrel for the first time since 2013. Although MBS claims to be holding out for concessions from the U.S., there is speculation that Saudi Arabia may not have the ability to increase production to offset Russia. Saudi Arabia has shown in recent months that it can produce more oil, but it is unclear how much capacity it actually has.
- The Iran nuclear deal is on the verge of being completed. A major sticking point in talks is the end to a probe into Iran’s undeclared nuclear activity. The head of the UN’s nuclear watchdog is expected to visit Tehran on Saturday. If he determines that the issue regarding nuclear activity has been resolved, it may remove the final obstacle preventing a deal. The removal of sanctions could make it easier for Iran to sell oil in the global market.
- The invasion of Ukraine may complicate manufacturers’ ability to produce more semiconductors. Ukraine is one of the largest suppliers of neon gas in the world. It produces over 50% of the world’s supply, and neon is indispensable in chipmaking. As a result, the semiconductor shortage may be a consistent problem in 2022.
- On Friday, South Korea started early voting for its election. Front-runners to winning the presidential nominations are conservative Yoon-Seok-youl and Lee Jae-myung of the ruling Democratic Party. The outcome is closely being watched by China, North Korea, and the U.S.; the new president could change Korea’s foreign policy stance. A win by the Yoon could lead to South Korea taking a tougher stance toward North Korea and China and a more amicable relationship with the U.S., while a win by Lee would likely keep the country on its current policy path. The latest opinion polls show the two are almost tied, with Lee leading Yoon by one percentage point (38% vs. 37%). The election will take place on March 9.
- Senator Joe Manchin (D-WV) has expressed openness to a much smaller spending bill. The new bill will feature prescription savings and a way to tax the wealthy.
- Following his visit to Taiwan, former Secretary of State Mike Pompeo has called on the U.S. to recognize Taiwan.