After Russia invaded Ukraine and the Russian stock market shut down, U.S. investors piled into the VanEck Russia ETF to “buy the dip.” That turned out to be unwise, as sanctions by western companies effectively isolated Russia from global capital markets, rendering local equities mostly worthless. It was one of the dumber things I’ve seen in a while, but not totally irrational.
When a financial instrument becomes very distressed, volatility increases. For example, if Russia had suddenly halted the invasion and made peace with Ukraine, those who bought shares in the VanEck Russia ETF would have enjoyed some huge gains. Instead, the shares tumbled, faling from around $25 a share to around $5.50 a share. Here’s how professional investors think about it: In times of stress, the underlying distribution becomes very flat, meaning very good or very bad outcomes are equally likely. In other words, optionality increases.
But we’ve seen situations like this in the recent past, with the meme stocks such as GameStop Corp. and AMC Entertainment Holdings Inc. Both were situations in which the underlying business was very distressed. But if the problems were fixed, there was significant upside. In that sense, the Russia situation continues a pattern that’s been developing for a while. Instead of doing fundamental analysis to find the best investing opportunities, people are just investing in the worst companies on the slim chance that something happens to spark a turnaround and causes their holdings to soar in value. Investors can have differences of opinions on stocks, but there was little question that GameStop’s business model was broken, as was AMC’s, and there is no realistic possibility of Russia quickly recovering from the economic sanctions. If you are buying the VanEck Russia ETF, you are gambling and not investing.
But there are bigger issues with buying the VanEck Russia ETF or any financial asset tied to Russia. The whole world is divesting of these assets, and even going beyond that by pouring Russian vodka out on the street. To be sure, there will be second and third-order effects of depriving Russia of capital — we just don’t know what they will be. Consider that people for years now have decided that one way they can take a stand against climate change is by not making any investments tied to fossil fuels, depriving the energy sector of capital. The lack of capital, though, contributed to the high oil prices that we have today.
There are many investors who don’t do much deep thinking about such ethical issues; they are just trying to make a quick buck. But if you buy assets tied Russia, you are in a way supporting Russia. The symbolism is impossible to miss. No doubt there will be investors who are not so concerned about morality standing by ready to scoop up Russian financial assets at fire sale prices. Bloomberg News reports that Goldman Sachs Group Inc. and JPMorgan Chase & Co. have been purchasing beaten-down company bonds tied to Russia in recent days, noting that banks routinely scoop up debt because clients asked them to, or because they expect to find ready buyers. Bloomberg News also reports that H2O Asset Management said it is maintaining its exposure to the Russian ruble in part because exiting its positions would be a gift to Vladimir Putin. “We consider that selling Russian assets, among which currencies, at such discounted rates is a counterproductive ‘gift’ to buyers, among whom the Russian government,” London-based H2O said in a letter to investors seen by Bloomberg News.
There’s no reason to doubt those explanations, but as explained earlier, “immoral” investors are potentially exposed to a higher return in such situations. Of course, that doesn’t quite square with the idea of market karma. Ordinarily, we would think that virtuous investors are the ones that earn the higher returns, but that’s not always true. When you invest with your conscience, you are making decisions based on factors other than risk and reward. The VanEck Russia ETF may be a very good trade one day, and those investors who boycott it now may miss out on big gains in the future. Sure, the risks are enormous, but so are the potential returns. Virtuous investors, though, may decide that foregoing those returns is worth it to be able to sleep better at night.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Jared Dillian is the editor and publisher of The Daily Dirtnap, investment strategist at Mauldin Economics, and the author of “Street Freak” and “All the Evil of This World.” He may have a stake in the areas he writes about.
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