David Joy: Investors mindful of risk as Ukraine drama unfolds

As the secession referendum in Crimea drew closer, investors grew increasingly cautious. In the U.S., the S&P 500 was pulled lower by 2.0% last week, pushing it back into the red for the year, down 0.4%. But the index remained just 2% off its high, suggesting only modest profit taking so far. The S&P on Friday did close below the closely watched support level of 1850, but remained above its 50-day moving average of 1829.

The reaction was more pronounced elsewhere, however. In Germany, stocks fell 3.2%, on top of the prior week's decline of 3.5%. In Poland, which shares a border with Ukraine, stocks fell 4.7% after falling 3.5% the week before.

The sharpest decline among the world's developed markets took place in Japan, where the Nikkei plunged 6.2%, victimized both by flight to safety buying in the yen, which drove its value higher by 1.9% against the dollar, and weaker than anticipated economic data from China, its largest trading partner.

However, in a move unlikely to elicit much sympathy in the West, the downdraft in the Russian Micex index was the most severe. Last week it dropped 7.6%, and has collapsed 14.3% in just the past two weeks, trimming $82 billion from its market capitalization.

The renewed sense of risk aversion could be seen in bond markets as well. The yield on the ten-year U.S. Treasury note dove 14 basis points on the week to 2.65%. Coupled with a modest 4 basis point rise in the yield-to-maturity of the BofA/Merrill Lynch High Yield Master II index, the spread between the two widened to 17 basis points to 396. The Barclays U.S. Aggregate is now higher by 2% on the year, reestablishing its return advantage over equities. The German 10 year yield fell 11 basis points to 1.55%, its lowest level since last July. Gold climbed 3.1%, and is higher by 4.3% in the past two weeks.

Muted Reaction to Retail Sales Report

Investors cared little that retail sales in the U.S. rebounded in February after two months of declines, or that initial jobless claims fell to their lowest level since last November. Although both reports lent some additional support to the view that weather had held back activity to start the year, they were not enough to overcome concerns about Ukraine, as well as further evidence of a slowdown in China, which reported weaker retail sales and industrial production activity. These reports came on the heels of last week's softer manufacturing and export data, suggesting growth may be on the softer side of the official 7.5% target.

It is difficult to look much beyond the near-term influence of the Ukrainian situation on market sentiment. In the aftermath of Sunday's referendum, the U.S. and EU are promising the imposition of economic sanctions on Russia. What that means exactly, and what its impact and Russia's reaction will be, is unknown. It also remains unclear if Russia intends further aggression toward the eastern provinces of Ukraine and what the response of the West would be.

While this drama plays out, the domestic calendar is expected to show further improvement as the economy shakes off the effects of winter. February housing starts and building permits are expected to show improvement, as is the NAHB index, while existing home sales are expected to be flat on the month. Industrial production is expected to rebound, as are the regional manufacturing reports from the Philadelphia and New York Federal Reserve Banks. And, of course, the FOMC of the Federal Reserve meets and is widely expected to initiate a third round of quantitative easing tapering. But if tensions in Ukraine escalate, these reports will take a back seat for the time being.

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The views expressed are as of the date given, may change as market or other conditions change, and may differ from views expressed by other Ameriprise Financial associates or affiliates. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances. Investment decisions should always be made based on an investor's specific financial needs, objectives, goals, time horizon, and risk tolerance.

The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization U.S. stocks.

The Nikkei index is a price-weighted average of 225 stocks of the first section of the Tokyo Stock Exchange.

The Bank of America/Merrill Lynch High Yield Master II is an index of high-yield corporate bonds which measures the broad high yield market.

The Barclays Capital U.S. Aggregate Bond Index is an unmanaged index composed of securities from the Barclays Capital Government/Corporate Bond Index, Mortgage-Backed Securities Index and the Asset-Backed Securities Index. Total return comprises price appreciation/depreciation and income as a percentage of the original investment. Indices are rebalanced monthly by market capitalization.

The MICEX Index is cap-weighted composite index calculated based on prices of the 50 most liquid Russian stocks of the largest and dynamically developing Russian issuers presented on the Moscow Exchange.

Investment products are not federally or FDIC-insured, are not deposits or obligations of, or guaranteed by any financial institution and involve investment risks including possible loss of principal and fluctuation in value.

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