1-2-1: Navigating Russia-Ukraine Crises
Inflation and rising rates, Berkshire Hathaway annual letter
It’s been a difficult few weeks. Russia’s attack on Ukraine is unjustified, cruel and is causing tremendous hardship for Ukrainians.
We’re at the brink of what feels like a multi-polar world. The east and west are at odds. Russia-Ukraine crises is a prime example.
I’m not a foreign policy expert and won’t pretend to be one. I’m an investor, entrepreneur and operator. I will focus today’s essay on how I’m approaching investing today.
This letter highlights:
Russian-Ukraine crises
Inflation and interest rate hikes
Berkshire Hathaway annual letter
What prior market crashes can teach us
How Starbucks makes 41% of it’s revenue from gift cards
When markets are in this type of disarray, it’s hard to underwrite a business properly. Investors across all asset classes are concerned. There are far too many moving pieces, but the three dominant ones right now are:
Russia-Ukraine crises
Inflation and rising rates
Supply chain constraints
Let’s start with Russia-Ukraine. Basic game theory shows a path:
Source: Bloomberg Economics
In either case, this crises is not going to be short-lived. This will likely be a long, drawn-out issue. The ideal scenario would be a cease fire to prevent any further damage and then it’ll be time for a clean up (which can take a while and require heavy negotiations from both sides).
Russia’s GDP is ~$1.4T. For context, their GDP is 1/3 of Germany and about 17X smaller than USA.
What should retail investors do at a time like this?
Investors generally rebalance their portfolio and heavy up on cash. This can vary depending on risk appetite and investment goals/targets, but it’s not uncommon for investors to go 40-50% cash at times of uncertainty.
How this investor made money when everyone was scared to invest: I recently spoke to a real estate investor who has accumulated $50M+ in net worth over the last decade. He started buying single family residential and multi-family homes post-financial crises in 2008. It’s easy to look back and say he was a genius, but when he started his journey, he was a contrarian. Foreclosure rate was high and uncertainty was looming, but he was buying and investing.
During times of uncertainty, investors should practice discipline. Don’t buy or sell out of emotion. If you can afford to be patient and wait things out, you should.
There’s no telling what the outcome of the crises will be right now, so practice patience and do some dollar cost averaging.
Inflation and Rising Rates
It’s hard to move attention away from Russia-Ukraine given the dire situation, but there are some good news.
Jobs report for Feb 2022 came out. We added a whopping 678K new jobs, dropping unemployment rate to 3.8%. Pre-pandemic number was 3.5%, so we’re nearing max employment.
Jerome Powell was invited to congressional testimony on March 3rd. Monetary policy report submitted to congress on Feb 25th is here.
TL;DR -
Focus on max employment and price stability
Powell’s focus is on reducing size of Fed’s balance sheet and increasing fed funds rate
Powell will make a recommendation for a 25 bps interest rate hike during next FOMC meeting on March 15-16
The near-term effects on the U.S. economy of the invasion of Ukraine, the ongoing war, the sanctions, and of events to come, remain highly uncertain
Morgan Stanley is predicting 6 rate hikes this year for a total of 150 bps (25 bps each time). Estimation from other institutions is 5-7 around 150-200 bps total.
We’re moving away from free money to cheap money.
In a rising rate environment, tech and growth under perform. Companies that generate FCF are favored. Companies that pay a dividend and have some forward looking equity appreciation become desirable.
Things I look for when underwriting an investment (for individual securities) in times like these:
Small to mid cap
Low P/E
High EBITDA / operating margin
Strong balance sheet
Serviceable debt (or low debt)
Favorable sector and category
*For 99.9% of retail investors, I suggest low cost ETFs or mutual funds. Active investing is risky.
The macro environment is dynamic. Be patient and invest wisely.
2 Posts From Others
Berkshire Hathaway 2021 annual letter (long read)
What previous market crashes can teach us (7 min read)
Twitter Thread
If you enjoyed this letter, please share with others that may benefit.