Russia’s takeover of Crimea is great news for traders — This geopolitical event has created profitable opportunities for stock and forex traders, especially those who use mechanical trading systems to filter out the emotional headlines which have been appearing daily as the drama unfolds.
For the past few weeks, we’ve been seeing the same pictures in the news media: Squads of Russian soldiers standing watch at Ukrainian military installations, and hearing the same stories about Ukrainian soldiers leaving their bases without firing a shot. The Russians have now succeeded in taking back a peninsula which was formerly theirs anyway.
A troubled stepchild has returned home
The fresh Ukrainian leadership in Kiev is pushing political buttons regarding the prospect of war with Russia, while both European and U.S. allies have talked loudly about Ukraine’s right to sovereignty. Yet, the allies have thus far placed only relatively-minor sanctions on Russian government and business leaders.
Casual readers of news headlines might fear World War III. However, the reality is far different. In contrast to the angry demonstrations in Ukraine’s heartland leading to the recent ouster of the Russian-leaning former leadership, ordinary Ukrainians don’t appear to be truly upset by recent events in Crimea. Instead of fighting for the return of Crimea, nationalistic fervor appears to be focused on preventing Russian incursions into Ukraine proper.
When considered apart from the strong nationalistic sentiments stirred up by Russia’s actions, most Ukrainians have felt little affinity for Crimea, and consider it an economic burden. And, Crimea is historically Russian, so there is little ethnic upset in returning it to Russia.
The Ukrainian government has maintained the moral high ground by protesting the aggressions of their powerful neighbor, but they refuse to physically defend Crimea.
Speak loudly and carry a tiny stick
The Obama administration has already said it isn’t willing to send troops to defend Poland, Lithuania and Latvia, the NATO allies which border Ukraine. Western sanctions thus far have amounted to symbolic pinpricks against a handful of Russian cronies who have very little exposure to the U.S.-centered financial system.
Why are Ukraine and its allies merely talking, instead of acting to defend Crimea?
From a long-term economic standpoint, Crimea is a loser because it doesn’t have any natural resources. Consider the difference in U.S. response when a hostile foreign country invades an oil-rich neighbor, especially when that country supplies U.S. needs. Then, all hell breaks loose, and a broad coalition of concerned (read oil-importing) nations sends troops to help the resource-rich weakling remain “free.”
That hasn’t happened in Crimea, and it seems unlikely to occur. This generally anemic response highlights the fact that the U.S. and Europe have little economic stake in Crimea or Ukraine.
Dumping Crimea is a good move for Ukraine, and possibly for Europe
Still, Europe does indeed have a political stake riding on the outcome of Russian ambitions in the region, and this divergence between economic and political realities creates opportunities for traders.
The Russian takeover of Crimea is a godsend for savvy traders who can see past the front-page clutter and understand the economic implications of Russia’s annexation of a resource-poor territory which was its own until about 60 years ago.
The right conclusions for the wrong reasons
Recently, the well-known market watcher Mark Hulbert penned an article about markets’ seeming indifference to geopolitical events, in which he pointed to a landmark academic study showing that non-economic news has little lasting impact on the markets.
Mr. Hulbert concluded that, after initial volatility caused by the Crimean headlines, U.S. and other stock markets have quickly refocused on economic factors. And, since stock prices were already rising at the time of Russia’s takeover, they should continue to rise in spite of this regional conflict.
Yet, I believe that he is drawing the “right conclusion for the wrong reasons.” From my own perspective, I view the stock markets’ rise as a resumption of the current rally after a brief disruption due to geopolitical news, as well as a sign of longer-term relief that a financially-troubled country (Ukraine), has now found a deep-pocketed patron (Russia) to foot the bill for a costly dependent territory (Crimea).
Even better for Ukraine (but not necessarily for Europe), Russia’s expansionism is pushing Europe to make bigger financial commitments to Ukraine on faster, looser terms than would otherwise have occurred. Stock markets everywhere love easy capital inflows.
A few days ago, I spoke with a Ukrainian friend living in Kiev. Although born in Ukraine, he is a successful international businessman who has spent plenty of time in both the U.S. and Russia, and he sees things from a multicultural perspective. Instead of Ukrainian nationalism, he believes in economic viability.
When I asked his opinion about the Crimea situation, he remarked that he is glad the Russians have annexed Crimea, and he hopes they’ll snatch a few other “welfare provinces” such as Donetsk, Zaporizhzhya and Kherson while they’re at it. He told me that he fears Russian aggression less than he fears the weak Ukrainian economy.
One man’s money pit is another man’s money maker
In the same way that stock market investors often bid up the share prices of ailing companies once they’ve shed some of their liabilities and are able to move forward with less baggage, the loss of Crimea makes Ukraine stronger and more attractive.
U.S. and European investors should see the transfer of Crimea to Russia as a very positive development. For the same reasons that the U.S. stock markets took the Crimean “crisis” in stride, I believe this takeover has created a new array of rich opportunities for savvy traders who can look past the scary news headlines.
As another observer pointed out in a recent CNN Money article, Ukraine and Crimea are a “money pit.” Now that Russia has stepped in to become the new “sucker” by taking Crimea’s financial weight off the shoulders of Ukraine and, by extension, the EU nations which are cozy with Ukraine, there are plenty of winning plays to be made with regard to currencies and stocks.
How traders can profit from the conflict in Crimea and Ukraine
Conventional crisis-focused trading wisdom might suggest that traders go long U.S. Treasuries and gold. And, swing trading and reverse trading strategies seem tempting during crisis periods. Yet, I recommend a more region-specific approach.
It’s important to understand that the Crimean peninsula, in spite of its perceived geopolitical and strategic importance, has no natural resources of its own. Until the Russian takeover it depended on mainland Ukraine for its energy supply and financial support.
Since it has no appreciable oil or gas deposits, Ukraine’s chief economic resource is its rich farmland. Wheat and corn are its main exports. Mechanical trading systems focused on corn and wheat futures can capitalize on the spreads between U.S. wheat and Black Sea wheat futures, and there are probably some arbitrage plays between the cash and futures markets available as well.
Go long Ukraine, short Russia
An even larger set of trading opportunities arise from Europe’s continuing sympathetic over-reaction toward Ukraine, and its increased negativity toward Russia. Even though Ukraine is an economic weakling, Europe is now offering plenty of economic assistance in order to earn political points.
Although Ukraine has long suffered from fundamental issues of governance and financial viability, both the U.S. and Europe are now likely to pump far more money into Ukraine than would be prudent from a purely business standpoint.
I believe that this largesse will certainly boost Ukrainian asset values, at least in the short- and mid-term. Traders should be happy to harvest the inefficiencies from a marketplace which reacts to political headlines before quickly settling back down into economic realities.
From a technical perspective, the Ukrainian stock exchange’s main index (UX) appears to be working its way toward the buying tip of a bullish flag pattern. Mechanical traders who access this market, or make synthetic plays based on it, can harvest rich gains while the Russians take the administrative and financial burdens of Crimea off the shoulders of the Ukrainian economy.
Likewise, I believe that the inevitable downward slide of U.S. investments in Russia caused by political tensions will bring even more opportunities. Smart traders should be able to craft some good long-Ukrainian/short-Russian mechanical trading strategies with funds such as LETRX and others.
Of course, short-Russia plays are also fueled by economic stagnation within Russia, as politicians and citizens become bogged down and preoccupied by the prospects of a war with Ukraine along their lengthy common border. Shorting Russia looks like a winning plan.
Mid-term and long-term infrastructure plays
If Ukrainians are wiser in a business sense than in a nationalistic sense, they’ll quickly cede Crimea to the Russians. That will make it easier for the Russians to spend the billions of dollars necessary to shore up the aging Crimean infrastructure and administer it. As well, the Ruskies will need to invest plenty of money to build new infrastructure such as roads and bridges between this costly stepchild and the over-extended parent country.
Traders will find opportunities to ride along with this coming infrastructure expansion. Even traders who lack direct access to Russian and Ukrainian stock markets can still create systems for trading U.S.-based ETFs and depositary receipts to synthetically take advantage of these opportunities.
And, by using mechanical trading systems with strategies focused on international stocks, bonds and funds, traders will be able to distinguish between the emotional “noise” of the media and the economic realities on the ground.
The energy consequences of the Crimea takeover
There are many natural gas and oil pipelines crossing Ukraine. And, Europe relies on Russia for about 40% of its gas needs. Still, unless there’s a Russian takeover of mainland Ukraine, chilly relations between the two countries shouldn’t adversely affect gas prices. That’s because Russia is already shipping about half its gas to Europe through non-Ukrainian pipelines.
Some pundits have suggested that the Ukrainian leadership might attempt to pressure Russia by cutting off the Ukrainian-hosted portion of the gas flow to Europe. I believe that scenario is highly unlikely – Russia has already shown its resistance to economic threats regarding Crimea, and the Europeans would more likely blame Ukraine than Russia for cutting off the gas.
The energy-trading opportunities created by the geopolitical events in Crimea seem obvious, yet the high volatility means that it may be difficult for independent traders to consistently win through short-term trading alone. A less-direct trading approach will probably be more successful. Instead of trading energy futures or forex, I suggest oil-development stocks.
Ukrainian shale oil
Ukrainian oil shale is a bullish focus for investors and traders: The Crimean takeover will certainly increase Ukraine’s urgency in developing its oil shale industry. Although Ukraine lost most of its potential offshore oil and gas prospects in the Black Sea, it still has its shale deposits to be developed, especially in the western part of the country.
The annexation of Crimea along with the political issues regarding the existing pipelines carrying Russian oil across Ukraine toward Europe should make the Ukrainian government more eager to ensure its energy independence, and shale holds the key.
Traders should discover that both Shell and Chevron will benefit, since they already have early shale-development operations in Ukraine, and the government will now push much harder for quick expansion.
Traders may profit from focusing on stock- or option-plays involving companies that supply equipment and know-how for shale-oil extraction, and it seems likely that American specialty companies operating in this niche will enjoy stock price gains.
At the same time, short-side traders may profit from the turnabout in Black Sea exploration projects now that Russia controls Crimea. Russia will almost certainly nationalize Chornomornaftogaz, the Ukrainian-owned gas company in Crimea, leaving the mostly-U.S.-aligned exploration and development companies at a disadvantage when they resume negotiations.
Traders can build strategies to take advantage of price movements of the underlying petroleum products or the stocks of the companies involved when the negotiations begin with the new owners of the subject development blocks.
In particular, ExxonMobil (XOM) is facing the downside of a long-delayed agreement with Ukraine regarding Black Sea development.
What about currencies?
During geopolitical crises, money typically flows toward “safer” currencies such as the U.S. dollar and the Japanese yen. And, we hear the usual warnings about keeping money on the sidelines until the smoke clears.
Still, I believe traders who look beyond the scary headlines about Crimea, and see the relatively nonchalant attitude of businesspeople on the ground in Ukraine, will soon begin venturing out of cash in search of hot markets.
For reasons indicated above, I believe the Russian ruble will continue to be a good “short” play well into the future. Although there are fewer liquid platforms for trading EUR/RUB than USD/RUB, still, I think the best forex plays in view of the Crimea takeover all involve shorting the ruble, especially EUR/RUB.
The best forex strategies will be spreads involving a steadily-falling ruble and a steadily-rising euro, with the performance of the dollar as a wildcard—rising, but not rising as predictably as the euro. I believe the euro has plenty of upside. In fact, even if Russia backs down from its territorial claims, the euro should still rise.
The Russian central bank has indicated that it will increase its involvement in currency markets in order to reduce the ruble’s slide in favor of the dollar and euro. However, the long, grinding financial drain that Crimea promises to create against the Russian economy means the ruble’s downward trend will become even worse.
At the same time, many Russian businesspeople with access to international banking are voting in favor of Europe by moving their money into the euro. Likewise, since those same Russians may fear asset freezes from U.S. sanctions, the smartest move is to favor EUR over USD during that flight.
Beyond Crimea
Of course, other Eastern European countries like Latvia, Lithuania and Poland are also feeling the pressure of Russia’s territorial expansionism, and are likewise moving into EUR.
Finally, if Russia decides to invade or annex other parts of Ukraine, forex traders who are short RUB and long EUR will earn even more profits, in my view.
Chris says
I can’t help but think loss of access to the Black Sea and such a large chunk of land has to be more of a negative for Ukraine, then this blog is spinning it as. There might be some short term financial relief but in the long run the more real estate you have the better. Think back on the Louisianna Purchase and Alaska. I think it’s not a good sign economically or otherwise for anyone when Russia starts bullying it’s neighbors again
Eddie Flower says
Chris:
You’ve made a good point regarding the idea that owning more real estate is generally better than owning less. Still, owning Crimea isn’t like owning a run-down house with valuable land underneath it. The peninsula doesn’t have much in the way of natural resources, and the infrastructure is in terrible shape. I stick to my contention that Crimea will be a costly fixer-upper for Russia; after all, remember that Russia has historically controlled Crimea for long periods of time, and they gave it away last time because they couldn’t afford to maintain it….
Chris says
as technology advances and discoveries are made who’s to say what the future value of particular piece of land will be. And as for your historical point; former occupants included:
Scythians (Scytho-Cimmerians, Tauri), Greeks, Romans, Goths, Huns, Bulgars, Kipchaks and Khazars.
Eddie Flower says
Those are good points. This piece of dirt has had many different owners/occupiers over the years, and in the future anything is possible. As a trader, I want to focus on here-and-now opportunities that others may have overlooked, so that’s why I wrote this pot-stirring article. Thanks for your good thoughts on this topic!