Market based approach to Russia

Let’s examine what happened from the beginning. An extreme right wing group, with US and NATO support (according to released internal transcripts), overthrew the legitimate Ukrainian government (illegally) via violent coup. The fact that this group had western support is not important really, but should be noted. So according to ‘international law’ – this ‘country’ is NOT Ukraine. Ukraine cease to exist when this happened. The new ‘government’ – not popularly elected, seized control by force. If anything we could call this country (still yet to be defined) the “New Ukraine” – of course if the current ‘government’ suggested this it would diminish their power; it serves them to mislead the world (those who are uninformed) that this is in fact the Ukraine, the same country that existed before. Once the legal process breaks down, there’s no going back.

Now, the smoking gun:

Why is this important?

When Russia went into Crimea, they claimed that they were protecting Russian citizens (who are the overwhelming majority there), which at the time sounded as an excuse for ‘annexation’ of Crimea (although Crimea was always part of Russia and mostly Russians are living there). Is it possible that Russian intelligence received such real threats to Russians in Crimea? Also to note the vehement anti-Russian stance of Western Ukrainians, at least those in power.

RT commentators saying this recording is right out of “Dr. Strangelove” – only problem, Ukraine doesn’t have nuclear weapons. Is she referring to her western friends? If they hate Russians so much, why not leave Crimea to them?

Where US interest lies

The US has few economic or political ties to Ukraine, other than the NATO agenda to expand further into Europe and Eurasia (Grand Chessboard). But the US has very strong economic ties with Russia. Russia is a huge consumer of USD, invests in the US, and has provided transportation and other logistic services to US forces in Afghanistan. Not to mention US corporations now doing business in Russia:

U.S. companies have also made sizable wagers in Russia. In 2010, PepsiCo agreed to buy Russian dairy and juice manufacturer Wimm-Bill-Dann Foods for over $5 billion, or about 16 times earnings before interest, taxes, depreciation and amoritization. The deal was seen as a way to boost the company’s revenue growth, which had slowed as PepsiCo’s mainstay U.S. market matured.

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Today, Russia accounts for about 7 percent of PepsiCo’s total revenue. PepsiCo declined to comment.

Ford has two plants in Russia, as does General Motors. Meanwhile,Renault/Nissan and Hyundai also have large operations in Russia.

Russians have also been gobbling up US real estate at an increasing pace, even financing new developments:

Russian Deputy Economy Minister Andrei Klepach recently said that he expects Russians to invest $80 billion outside of Russia over the next few months, up from the $65 billion that he predicted originally.

Until now, investment in the U.S. only accounted for a small fraction of that number. But that may be changing. Mermelstein expects Russian real estate investment in the U.S., both commercial and residential, to double from its current share of 5 percent of Russian investment abroad to 10 percent in 2012.

Not to mention other sectors, such as the Steel industry:

Russian steelmaker OAO Severstal yesterday said it is buying a Western Pennsylvania coal company for $1.3 billion in cash, adding to the surge of Russian money into the United States.

Russia holds $136 Billion of US Government Debt. Ukraine on the other hand, holds so little they are categorized under ‘other’ (according to data from the US Treasury).

What happened to ‘the customer is always right?’

Russia is certainly not the largest customer of the US. But they are a significant one. And with US companies in Russia, trade has been two way.

Part of the motivation of dismantling the Soviet Union was to create a capitalist ‘open market’ system, that the US could do business with Russia. They have done that. Their economy has grown, and they’ve learned from the American system, adopting many US-led economic practices. They have even replicated the ‘open markets’ model creating a commodity and derivatives exchange:

In February 2011 JSC “Saint-Petersburg exchange” and JSC “RTS Stock Exchange” carried out a joint project on organization of trading of commodities futures. In this project organizer of trading is JSC “Saint-Petersburg exchange”, clearing organization is CJSC “CC RTS”, settlement organization is “Settlement Chamber RTS”. Trading is carried out on the basis of trade system and risk-management system of FORTS derivatives market. It ensures the principle of single money position in all markets for the participants of trading.

Russia is depicted in the media as a wasteland. Moscow has built a downtown filled with skyscrapers comparable to many international business districts. A growing middle and upper class in Russia puts in on par if not more advanced than Western economies:

Stable gross domestic product growth, declining inflation and a record-low unemployment rate are pointing to positive consumer purchasing power in Russia. The Russian middle class, which stands at 104 million strong, is fueling that power. This segment of the population is projected to rise 16 percent between now and 2020, at which point it will represent 86 percent of the population and amount to $1.3 trillion in spending—up 40 percent from 2010, based on a global study of the emerging middle class and related databases by Dr. Homi Kharas of the Brookings Institution.

“There is an equal share of money at the top and in the middle,” said Dr. Venkatesh Bala, chief economist, The Cambridge Group, a part of Nielsen. “Russia’s middle class today has the same share of income as the upper class and has remained an untapped opportunity by many international corporations.”

While the top 20 percent of income earners in Russia represent 47 percent of the country’s total income, the middle 60 percent accounts for 48 percent, according to federal statistics from the Bank of Russia (2012). The bottom 20 percent comprise the remaining five percent of income.

Ukraine on the other hand, has done none of this. Many of the media depictions of Russia are more applicable to Ukraine.

Finally, since this issue has become polarized, just to compare the 2 choices. Is it better to support a coup government that seized power by force, with few economic and political ties (Ukraine); or Russia, a legitimate country, world power, with many economic ties, who has proven in the past 10 years that it has accepted the suggested economic reforms?

Supposedly as traders we look at economic data and make economic decisions. Following the ‘sanctions’ logic to the end, we have much more to lose by supporting ‘Ukraine’ than Russia. Taking what they have learned from the West, it would not be difficult for Russia to internally reorganize their economy, and make new partnerships that have already been in the making for years (such as with China, India, and others). Russia also sits on vast natural resources, which could be used internally or sold to China.

Irony of fallacious policy

Hundreds of billions of dollars were spent on propoganda, intelligence, and other means, during the Cold War, trying to convince the Russians to go capitalist. Open their markets. Finally it suceeded, and they have developed a sophistocated, capitalist market system. All of those efforts are now in jeopardy.

Now, for reasons unknown, the West is sending the opposite message. Through the use of account freezing, trade sanctions, and other economic tactics, the West is doing exactly what the West tried to convince the Russians not to do for decades.

No matter the outcome, the West (US and Europe) has much more to lose in any scenario.

Market approach

Traders should only be concerned about the message being sent to the markets. Markets operate based on a series of rules. The market opens at a certain time, closes at a certain time. Contracts are defined in quality and quantity. Although traders may be emotional and irrational, they cannot operate outside of market rules (for example, if you are not happy with the outcome of a trade, you cannot just delete it from your account). A violation of market rules opens a pandora’s box.

What’s next? Politicians will decide that in order to support the US market (because it’s now suffering due to billions flowing out because of sanctions, or assets are frozen) that now to support our efforts overseas, we can only buy (not sell)? Or that IRAs are converted to tbills to ‘save Ukraine’? Since when did any Westerner care about Ukrainian politics?

..44 percent weren’t sure about the name of the former Ukrainian president with close ties to Russia who was recently removed from office. Only 40 percent correctly chose Viktor Yanukovych from the list. Sixteen percent selected an incorrect answer.

A relative lack of knowledge, however, doesn’t stop some from giving their opinion on various policy questions. The poll found that 24 percent of Americans were willing to express an opinion on whether the nonexistent Ukraine Administrative Adjustment Act should be repealed in light of the conflict. Respondents who gave an answer were divided evenly, with 12 percent backing repeal and 12 percent opposed.

With the economy faltering as it is, a market based approach to the current situation would have given a boost to the economy, instead of putting further negative pressure.

Looking economically, any trader should agree that if you can lose 100 and gain possibly another 20 or more through solidifying the relationship (Russia) and lose a few; OR (Ukraine) gain a few, but in the process lose 100, it’s a no brainer trade. That is the economic magnitude difference between Russia and Ukraine, based on above referenced economic data.

The reason Nixon opened up China, was to further the US economy, not to meddle in Chinese politics. Even recently, we’ve overlooked China’s domestic problems, such as human rights, the seizing of Tibet, rampant pollution, and other issues not acceptable by Western standards, in the interest of furthering trade. And over a period of decades, with US cooperation, China has built itself into an industrial powerhouse, and supplies goods in almost every economic sector, and is the US biggest customer.

Some important facts to note about Russia: