Two weeks ago Russia began its invasion of the Ukraine in earnest. What had begun in 2014 following the ouster of a corrupt pro-Russian government was followed by the annexation of the Crimea and then the fermenting of a civil war in the Donbas region of eastern Ukraine, finally cumulating in his goal of retaking the entire country and bringing it back under Russian purview, most likely in the form of a puppet government.
No one has been more successful at undoing Russian strategic goals than the Russian government. Putin had once hoped to establish a new Warsaw style pact, he hoped to undermine NATO, he’d longed to set up an Eastern European economic zone to compete with the EU. To imagine that any of these goals could today be defined as likely is to dabble in fantasy. His ultimate goal, at least defined by his own comments, was to restore Russia to its previous status as a respected superpower like it was under the Soviet Union. Today it seems as though his army, impressive and large though it is, has already met its match in conventional warfare in the early days of its Ukrainian adventure.
While the military side of his invasion doesn’t seem to be going according to plan, something that must have really taken him by surprise was the resolve he faced globally. Though NATO has said it won’t get involved, weapons are flowing into the country. Nations, like Finland and Sweden whom Russia has treated as extensions of its old empire, are making loud noises that they too would like to join NATO. Germany, long a NATO laggard has promised to increase its military spending above the target 2% of GDP for NATO members. The notoriously neutral Switzerland has said it will freeze Russian assets, and throughout the world condemnation has been swift, especially on the financial front.
In the space of a few days Russia didn’t just find itself diplomatically isolated, but financially as well. The international banking system has been effectively closed to Russia and its central bank, putting a stop on many of its rainy day funds it will need to sustain its campaign. I won’t endeavor to explain the full range of how the global bank sanctions work, as the process is complicated and other better versed people can explain it more succinctly, but the truth is that the Russian state is deeply isolated and in financial chaos.
Markets have responded to this chaos with a fair amount of volatility, with some big swings both up and down since the invasion began. This is understandable, but what comes next will be more unpredictable. Russia does not have many face-saving ways to undo its situation, a fact that has not gone unnoticed by many. Stuck in heavy fighting in Ukraine, a collapsing economy, a restless population at home and a kleptocratic network of military officials and billionaire oligarchs who hide their assets in Western nations, Putin may find himself backed into a corner with few options open to him, some of which were likely previously unthinkable.
I’m reminded of a saying from Sun Tzu, the famed military strategist of ancient China, whose book on strategy is often “required reading” for a certain type of hedge fund manager. “When you surround your enemies, leave an opening; do not push too hard on the enemies who are desperate.” Even if Putin is ultimately successful in Ukraine it’s hard to see what kind of victory can be cobbled together on the world stage. Russia will need a way out, an opportunity to exit and with walls closing in our own “Western” victory of aiming to contain Putin may create more chaos than we are expecting or can anticipate.
I don’t want to be alarmist, but the nature of war is to be unpredictable, and cautious investors should take note that we are still in the early days of what could prove to be a long, protracted, and ultimately surprising conflict that has many unknowable outcomes, some of which may leave the world order changed, for better and worse. Putin has unleashed something, and what that is can not be fully guessed.