Ukraine crisis gives rise to currency opportunities, but tragedy may give traders pause

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Currencies in resourced-based economies like Canada’s will make a good long position as energy and food prices soar amid the impacts of the Ukraine invasion and ensuing economic sanctions on Russia.

Global energy and food prices will continue to rise with the euro taking a substantial hit because of its reliance on Russian commodities, particularly energy, explains David Rosenberg, chief economist and strategist at Rosenberg Research and Associates Inc.

There is little appetite – or support – in markets to capitalize on tragedy. ... Buying Netflix because of a weak earnings report is materially different than purchasing distressed assets in war torn regions of the world.

Peter Mann, Grayhawk Investment Strategies

“You want to short the euro and long the resource-based currencies of the world,” he says.

“You want to be in the currencies that have a very large commodity content, which includes Canada, it includes Australia, and you could argue it even includes emerging market currencies, like Brazil and South Africa,” he adds.

“They are the beneficiaries from what’s called a positive terms-of-trade shock for those countries that are lucky enough to have the resources in the ground that are part and parcel of what’s rising around the world, like food, fuel and a wide range of mineral prices.”

Indeed, resource-based economies and their central banks will likely forge ahead with raising interest rates in an attempt to stave off inflation, but this is a sign of a healthier economy, as it is unlikely the European central bank will be able to make the same moves this year given their exposure to Russia, explains Shaun Osborne, chief currency strategist at The Bank of Nova Scotia, which operates as Scotiabank, echoing Rosenberg’s sentiment on the euro.

“Russia is not terribly important to Canada, from the financial point of view, [as] U.S. and Canadian banks don’t have that much direct exposure to Russia, it would appear,” says Osborne.

“The big risk is for European investors who have geographically a bit more risk, and the European banks who certainly have a lot more loan exposure to Russia. A lot of the reasons I think that the West, and Europe in particular, has been dancing around this idea of sanctions on Russia and really trying to fine tune these [sanctions] is because European banks had around 35 billion euros in loan risk out to Russia last year.”

A side effect of the current economic climate may be an uptick or “refocusing” to currency carry trades, adds Osborne, “which is generally a pretty solid driver of FX returns, historically.”

Currency carry trades happen when investors buy high-yielding currencies and fund the transaction with a low-yielding or negative yielding currency.

“I think we’re likely to see a return to that kind of trading over the course of the next few months,” he explains.

While there may be more investing opportunities in certain currency and energy markets, there may be some hesitation by investment firms if that opportunity is born out of human tragedy, explains Peter Mann, co-chief executive officer at Grayhawk Investment Strategies Inc.

“I think that there are speculators or traders in currencies that would certainly be eyeing opportunities or the arbitrage between some of these, vis-à-vis the underlying commodity crisis.”

However, he points out that many investors put an ESG (environmental, social and governance) lens on their investments these days, which may keep some from taking advantage of investment opportunities that historically would have been pounced on for their bottomed-out pricing.

“There is a dearth of new capital looking to chase this [type or trade or investment] because investment managers are now more focused on social/impact/ESG frameworks that keep them in line with the UN PRI (principles for responsible investing supported by the United Nations). Historically, that was not a leading input. What mattered was whether or not a security was opportunistically cheap,” explains Mann.

“There is little appetite – or support – in markets to capitalize on tragedy,” he adds. “Buying Netflix because of a weak earnings report is materially different than purchasing distressed assets in war torn regions of the world.”