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Analysis

Zelensky forced to ‘face reality’ over peace process with Russia

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Ukraine’s president Volodymyr Zelensky is struggling to salvage a deadlocked peace process that was supposed to end a simmering conflict with Russian-backed forces in the country’s far east.

Moscow’s massive military build-up on Ukraine’s eastern border and in occupied Crimea last month, followed by a partial troop withdrawal, was “from the Kremlin’s perspective a clear success”, Kurt Volker, former US special representative to Ukraine, wrote last week. Russia’s sabre-rattling left “Ukraine looking vulnerable, the west having demonstrably shied away from a military show of force and [Vladimir] Putin having strengthened his position” in the region.

Zelensky, who was elected in 2019 on a promise to end the war in the Donbas region, has few options for breaking the deadlock, having failed to galvanise Kyiv’s western allies behind further economic sanctions against Russia and with Washington’s willingness to engage in a new diplomatic effort unclear.

The former comedian is finding it hard even to get Putin to the table for peace talks alongside leaders of western countries backing Kyiv. 

Zelensky has been forced to acknowledge that the Russian president may not, for now, want peace in Donbas where 14,000 combatants and civilians have been killed — unless Kyiv agrees to terms politically unacceptable to any Ukrainian leader.

A Ukrainian soldier near the front line in the town of Pisky, near Donetsk
A Ukrainian soldier near the front line in the town of Pisky, Donetsk © Aleksey Filippov/AFP via Getty Images

A senior Ukrainian official admitted it had taken Zelensky two years to “face reality”.

“Ukraine is committed to peace and is ready to do everything in its power to achieve such peace,” said an adviser to the president. “However, it takes two parties to want peace and Moscow’s recent belligerent behaviour cast significant doubt on its intent,” the adviser added.

Zelensky told the Financial Times last week that he wanted the US and UK to join the so-called Normandy group of Germany, France, Ukraine and Russia to help break the impasse.

He also called for changes to the Minsk peace accord negotiated by the Normandy four, which has not been implemented, with Kyiv and Moscow at loggerheads over terms and sequencing. But the Kremlin refuses to renegotiate the deal. “There is no way of changing it without, in fact, terminating it,” Dmitry Peskov, Putin’s spokesman, said last week in response to Zelensky’s appeal in the FT.

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Paris and Berlin, meanwhile, fear walking away from the Minsk accord could provoke Moscow. Scrapping it would also make it harder to sustain EU sanctions against Russia.

Andriy Yermak, Zelensky’s chief of staff, admitted in a television interview last week that Kyiv did not have a chosen diplomatic strategy.

“It is necessary to continue working in all directions and in all formats,” he said. “Because in the end we do not know what format will bring peace to our land, when we can return all our territories, all our people and end the war,” Yermak added.

In his first year as president, Zelensky scored a quick victory after negotiations in Paris with Putin, French president Emmanuel Macron and German chancellor Angela Merkel. He convinced Russia and its separatist proxies controlling two breakaway regions in Donbas, Ukraine’s industrial heartland, to exchange hundreds of prisoners of war. However, the process has since stalled and a fresh ceasefire agreed in July 2020 broke down earlier this year.

Volodymyr Zelensky, Vladimir Putin, Emmanuel Macron and Angela Merkel
In his first year as president, Volodymyr Zelensky, far left, scored a quick victory after negotiations with Angela Merkel, Emmanuel Macron and Vladimir Putin convinced Russia to exchange prisoners of war © Ludovic Marin/Pool/EPA-EFE/Shutterstock

Kyiv insists it is not required to grant permanent autonomy to the breakaway areas, fearing such a status would thwart its aspirations to join the EU and Nato. Moscow and its Donbas proxy “republics” have refused to yield control to Kyiv over the region and border before elections can be held as a step towards reintegration with Ukraine.

Zelensky last month pushed for one-to-one talks with Putin, something he has avoided so far during the conflict. Putin declined Zelensky’s request to meet on the front lines and offered to discuss bilateral relations — not the Donbas war — if Zelensky came to Moscow. Putin added that on the issue of Donbas, Zelensky should hold talks with leaders of the Russian-backed breakaway republics, which the Ukrainian president refuses to do.

“Putin demonstrated that he has not the least bit of desire to yield anything of interest to Zelensky let alone reach a peace agreement,” said Danylo Lubkivsky, director of the Kyiv Security Forum. “Only collective international pressure can force Putin to free these captive Ukrainian territories.”

Zelensky hopes that a bigger role for US president Joe Biden, either alongside France and Germany or in bilateral talks with Putin, might help to nudge Moscow towards compromise.

Russian troops landing on a beach
Russian forces take part in a military drill at the Opuk training ground not far from the town of Kerch, on the Kerch Peninsula in the east of the Crimea © Russian Defence Ministry/AFP via Getty Images

“It’s strategically important to bring in Biden . . . America should be back at the table to restore Ukraine’s territorial integrity on two tracks, Crimea and Donbas — because this is the matter of global security,” Lubkivsky added.

But Kyiv is unclear how forcefully Washington will commit to a new peace initiative. While Biden is a friend of Ukraine, his administration contains Obama-era officials who were sceptical of deeper US involvement six years ago. Secretary of state Antony Blinken will visit Kyiv on May 5.

How the US and other western powers could help Ukraine regain its territorial integrity was a “vexing problem”, George Kent, a senior Department of State official, told the Kyiv Security Forum last week. The challenge, he said, was “to try to change Russia’s cost calculus and its behaviour”.

One way the US could increase pressure on Moscow would be to extend US sanctions on dollar-denominated Russian debt issuance to the holding of such debt, Kent said.

But changing Russian behaviour “is not easy. And no one has come up with a winning solution.”

Sarah Lain, a Kyiv-based researcher at the Royal United Services Institute, said even just expressions of western solidarity with Kyiv were important. Many capitals now see the Ukraine-Russia conflict as “part of their Russia policy” rather than some bilateral dispute.

“This is important for Zelensky’s standing,” she added.

Maria Zolkina, an analyst at the Kyiv-based Democratic Initiatives Foundation, said “the only chance that Russia under Putin could return control over these territories at acceptable terms for Ukraine is if Russia finds itself under deep financial and technological constraints”.

“But the problem of the west is that nobody will impose such sanctions, worrying that it will only increase Russia’s hostilities,” she added.

Some Ukrainian analysts and officials are resigned to a long, frozen conflict and say Kyiv’s best strategy is to rebuild its economy and modernise its state. A Ukrainian official described it as the “West German strategy”: focus on outlasting Putin and forging peace after a new leadership comes to power in Russia, but from a position of relative strength.



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Analysis

Large-cap US stocks with high ETF ownership have underperformed

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Visit our ETF Hub for investor news and education, market updates and analysis and easy-to-use tools to help you select the right ETFs.

Large-cap US stocks favoured by exchange traded funds have underperformed the wider market in recent years, raising fears that “crowding” in popular companies is damaging returns.

Analysis of the constituents of the S&P 100 by Vincent Deluard, global macro strategist at StoneX, a New York-based brokerage, found that since 2018 the stocks most owned by ETFs have tended to perform worse that those more lightly held by such funds.

Moreover, this negative correlation “has been getting stronger in the past three years”, Deluard said, “which I find interesting and possibly consistent with the view that a high ETF ownership depresses future returns by pushing up valuations”.

If that thesis is correct, then “the best opportunities to compound wealth should therefore be found outside of popular funds and indices,” he added.

Deluard’s research adds some credence to the arguments of some value investors that the rise of ETFs is just the latest example of “the madness of crowds” and that price-insensitive index funds create “passive bubbles” by piling into the same momentum-driven stocks, only for these bubbles to then burst.

The booming global ETF industry has seen its assets almost double to $9tn since the end of 2018, according to figures from consultancy ETFGI, with the bulk of this money both in the US and in equities.

Simultaneously, there has been a partial shift from broad market capitalisation-weighted ETFs — which pump money into every stock in an index in line with its pre-existing size — to narrowly focused thematic ETFs and those investing on the basis of environmental, social and governance factors.

The assets of thematic ETFs have tripled since the end of 2018 to $382bn, according to ETFGI, while those of ESG ETFs have risen ninefold to $246bn over the same period.

This has fed suggestions that ETFs have evolved from attempting to passively reflect stock markets to actively shaping them, distorting prices of particular companies as an ever larger share of money flows into favoured “ETF darling” stocks.

However, the data from StoneX suggests that the opposite may be happening, with unfavoured stocks seeing stronger gains.

Deluard found that ETFs’ share of ownership ranges from 4.1 per cent to 11.2 per cent for the 100 largest US stocks.

ETF ownership and return

The 10 stocks most lightly owned by ETFs include five that have more than doubled investors’ money over the past three years: Morgan Stanley, T-Mobile US, Deere & Co, Amazon and Tesla, the latter with an outsized 820 per cent total return.

Apple, Alphabet and Facebook are in the same quadrant.

In contrast, the stocks most favoured by ETFs include a disproportionate number of weak performers, such as Gilead Sciences, Chevron, ExxonMobil, Intel and 3M, alongside a smaller number of strong performers such as chip designers Texas Instruments, Qualcomm and Lam Research.

Deluard played down the importance of his findings to some degree, saying the negative correlation between the level of ETF ownership and performance was statistically “weak” and that relative sector performance “has been the main driver” of returns.

Although there has been high profile coverage of some tech ETFs, the ETF industry as a whole tends to be underweight technology stocks, something he attributes to a meaningful block of stock typically being locked up in founders’ stakes and employee ownership, leaving less for outside investors.

Similarly, despite the rise of ESG ETFs, the industry at large is still overweight oil companies such as Chevron and ExxonMobil, which are favoured by value and dividend ETFs.

Comparable analysis Deluard conducted into the 2012-2018 period found a weaker, though still negative, link between ETF ownership and performance.

Nevertheless, even if his findings can be attributed to a statistical quirk, there is at least no evidence that rising ETF ownership is distorting the market by pushing up the prices of ETF darlings at the expense of unloved and overlooked stocks.

Deluard does not, though, rule out the possibility ETFs might be pushing up prices of small or mid-cap stocks that are less able to absorb strong ETF inflows, such as those in popular fields like gold miners or cyber security companies.

“Passive distortions are likely much greater for small caps whose limited float can be overwhelmed by index funds’ relentless buying,” he said.

Peter Sleep, senior portfolio manager at 7 Investment Management, cautioned that Deluard’s findings could vary somewhat if they were based on free-float market capitalisation, omitting founders’ stakes from the calculation.

On this basis, ETFs would own a higher percentage of technology companies’ shares, reducing the tendency for lightly held shares to have performed better.

Overall, though, Sleep welcomed the findings saying “I think it’s a good thing. You often hear people say that the market is only going up because of ETFs,” an argument the analysis undermines.

Todd Rosenbluth, head of ETF and mutual fund research at CFRA Research, said the findings ran counter to what he would have expected, and possibly signified ETF darling stocks first witness an unsustainable rise, followed by a reversion to the mean.

“There have been two narratives out there,” he said. “One is that too much money is going into ETFs and thus they are driving the car, and stock prices are being dragged along with them. This seems to disprove that,” Rosenbluth said.

“The second is that people will pile out of these [ETF darling] securities and the stocks will fall.”

Click here to visit the ETF Hub

 



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Analysis

Biden faces tough path to US economic recovery

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Joe Biden is grappling with a messy and unpredictable economic outlook as the twin threats of rising inflation and slow jobs growth shake confidence in the steadiness of the US recovery from the pandemic.

The US labour department this month reported that the pace of job creation slowed significantly in April, fuelling concerns of widespread discrepancies in the labour market.

It followed up that report with figures published last week showing an unexpectedly steep jump last month in its consumer price index, compounding fears of mounting inflationary pressures.

The data have exposed Biden to sharper criticism of his economic management from Republicans and rattled hopes of a smooth rebound from the coronavirus crisis on the back of hefty fiscal stimulus and quick vaccination rollouts.

The US has driven the global economic recovery, with the IMF predicting gross domestic product growth of 6.4 per cent in 2021.

“There are a lot of signs of a resurgence in aggregate demand — an economy that’s recovering, but that recovery is going to be chaotic,” said Wendy Edelberg, director of the Hamilton Project, an economic think-tank at the Brookings Institution. “And yes, really difficult to manage.”

Senior Biden administration officials have cautioned against drawing too many conclusions from one month’s data. They argued that average monthly job creation over the past three months has still been much stronger than in the previous quarter, that the inflation bounce is likely to be transitory and that the recovery remains firmly on track.

But they have also acknowledged high levels of economic uncertainty at a time of big shifts in spending patterns and employment trends, and as health-related restrictions are being lifted across the country more rapidly than predicted — partly because of the pace of the country’s vaccination campaign.

“There’s going to be a period, as supply starts to equal demand and sectors are healing and recovering, [during which] there’s going to be some choppiness,” Cecilia Rouse, chair of the White House Council of Economic Advisers, told reporters on Friday.

“We know that the mismatch between different parts of the economy will show up in unexpected ways until the economy more fully recovers. As the president urged earlier this week, we must be patient,” she added.

Critics of the administration’s economic policies — ranging from former Democratic Treasury secretary Larry Summers to Republicans on Capitol Hill — have seized on the latest data to argue that the Biden administration has recklessly dismissed the risks of excessive fiscal stimulus, and played down the economic warning signs.

“I was on the worried side about inflation and it’s all moved much faster, much sooner than I had predicted. That has to make us nervous going forward,” Summers wrote on Twitter on Friday.

“I think there’s a decent chance that this works out fine. And that we just have a super rapid recovery and a great year,” said Michael Strain, director of economic policy studies at the American Enterprise Institute, a conservative think-tank. “I think there’s also a chance that this could end really poorly.”

Other data releases last week failed to clarify the picture. The University of Michigan’s consumer sentiment index showed rising long-term inflation expectations, while retail sales were flat last month after a big jump in March. On the brighter side, weekly jobless claims out on Thursday dropped to a low point for the pandemic.

Cecilia Rouse
Cecilia Rouse said: ‘There’s going to be a period, as supply starts to equal demand and sectors are healing and recovering, [during which] there’s going to be some choppiness’ © Reuters

At this stage, there were no signs from the White House of any big changes to Biden’s policy agenda to address the emerging economic picture. On the labour market front, the president moved to enforce a requirement that citizens who were offered “suitable” jobs not be eligible for unemployment benefits, and Rouse said the White House was reminding businesses of a tax credit for employee retention set up as part of its stimulus programme.

The White House is sticking by the fiscal support it has enacted with the help of congressional Democrats not only to stoke the country’s recovery but also to help low-income families. It has also pointed to its confidence in the Federal Reserve to manage any rise in inflation.

But Republicans and conservative economists have called for more dramatic action to cool the economy, such as an early end to federal unemployment benefits, which Republican-led states across the country have refused to pay.

Meanwhile, economists whose forecasts were badly wrecked by the data released in recent days warned that any assumptions about the US recovery — let alone policy changes — may well have to be revisited.

“We’re in such an uncharted territory,” said the Hamilton Project’s Edelberg. “When you’re talking about the changes in aggregate demand that we’re experiencing, and changes in supply that we’re experiencing — whatever uncertainty you have about inflation in normal times, increase that by an order of magnitude.”





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Covid rules leave pubs and restaurants in England fearing the great indoor reopening

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Before the pandemic, the tiny Sicilian restaurant Franzina Trattoria was loved by south London locals for its long communal tables. Customers would squeeze in and share food with people they had never met. Two diners, who were complete strangers, ended up getting married.

But as owner Stefania Taormina and her husband Pietro Franz prepare to welcome the first diners since December back into their 4-metre-wide eatery in Brixton on Monday, Taormina fears they may not return.

“We don’t see many bookings inside [and] it’s a bit scary. We think people are thinking differently now and sharing tables is maybe a problem,” she said.

To comply with Covid-19 restrictions for hospitality businesses in England when the government allows them to open indoors from Monday, Taormina has cut the number of guests seated in the restaurant from 55 to 14 and spent £1,000 on plastic dividers to break up the tables.

The saving grace has been the six two-person tables on the restaurant’s outside terrace, which have been booked all hours of the day since restrictions on outdoor eating and drinking were lifted in late April. “We are breaking even just about with the terrace open,” she said. “I think people still prefer to go to places outside.”

The pandemic has left the hospitality industry facing a crisis of historic proportions. Since the pandemic struck, UKHospitality, the trade body, estimates the sector across Britain has lost £80.8bn in sales between April 2020 and this March, compared with the previous 12-month period, equivalent to £9m every hour.

Line chart of like-for-like hospitality sales compared with 2019 (% change) showing pub and restaurant sales have plummeted during the pandemic

More than 8,500 of the UK’s 115,100 licensed premises have gone out of business. And only a third of those operating have the outdoor space that has allowed them to reopen since the government allowed alfresco dining from April 12.

Even as the rest make ready to open inside in the biggest easing of restrictions in England since lockdown was imposed in January, many pub and restaurant owners fear the remaining Covid rules — waiter service only at tables that must be at least 1m apart, with a limit of six people from no more than two households — will make most establishments unprofitable.

“The vast majority of our pubs will be trading on May 17 [but] I expect us still to be trading at levels where we will be making a loss,” said Andy Spencer, managing director of Punch Pubs, which owns 1,100 premises. He said that pubs would run at half their usual capacity and that the restrictions were “challenging, time consuming and expensive”.

Key to profitability for most pubs and restaurants is the removal of all social-distancing rules, and many owners were buoyed by recent comments from Boris Johnson. At the start of this week, the UK prime minister raised the possibility that all restrictions could be lifted over the summer.

But by Friday, Johnson warned that the next state of England’s lockdown easing plans due on June 21 — when all existing rules are set to fall away — may have to be delayed because of a surge in infections caused by the emergence a Covid-19 variant first detected in India.

Opening with extensive restrictions in place has presented other challenges, not least the need to train staff who have been furloughed for months.

Pedestrians walk past a PizzaExpress restaurant in central London
PizzaExpress’s 6,000 staff have had a week of ‘full immersion’ training in both hygiene measures and service © Tolga Akmen/AFP/Getty Images

Zoe Bowley, managing director of PizzaExpress, said the chain’s 6,000 employees had undergone a week of “full immersion” training, both in hygiene measures and service. “Some of our team members, apart from a small gap in November, haven’t worked for a year,” she said.

The sector also faces a labour shortage with a loss of experienced and qualified staff, partly due to the pandemic and partly due to Brexit, with EU workers returning to their home countries.

This will add to the pressure on employees facing customers for the first time in months. “They are rusty after furlough for a year and are heading back to jobs where they will have to cover other roles because there aren’t enough staff to cope,” warned Mark Lewis, chief executive of the charity Hospitality Action.

Another common fear is antagonising guests by insisting they comply with the Covid regulations, such as checking in with the test-and-trace app and wearing a mask when moving around.

Even if reopening goes as planned, the absence of foreign tourists and commuters for at least part of the summer — with international travel still heavily restricted and office staff encouraged to continue to work from home until at least late June — is expected to leave many city-centre establishments short of customers.

Anna Sebastian, manager of the Artesian bar at London’s Langham hotel
Anna Sebastian, bar manager of the Artesian at London’s Langham hotel, said ‘normality won’t be restored’ until tourists return in large numbers © Charlie Bibby/FT

“We’re very dependent on footfall from tourists shopping on Oxford Street and hotel guests, so until they return in large numbers, normality won’t be restored,” said Anna Sebastian, bar manager of the Artesian at The Langham hotel in London.

If there is a positive to have come out of the crisis, the pandemic has forced the industry to accelerate the adoption of technology that has improved productivity: payment and ordering apps allow operators to turn tables faster and employ fewer staff.

Customers using apps also tend to spend more per head having had more time to peruse the menu and the ability to order as and when they want, according to several pub and restaurant owners.

But Bowley warned there was a “fine balance” to strike to make sure that an industry built on personal service did not become “faceless” just as it needed customers to return.

Technology aside, Spencer said he feared that until sports and live music could restart and customers could stand up in crowded bars, the pub experience would be a “sanitised” one. “We have taken out a lot of the soul . . . and a lot of the things that make the pub really special,” he said.

It is the same pre-Covid conviviality that Taormina fears will be lost at Franzina Trattoria. “It was a joy for me because you would see people who you had never seen in your life start to drink together and talk about food together and then sometimes they would go out together afterwards . . . I am scared that it will not happen again.”

Additional reporting by Oliver Barnes



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