Russia’s Strategy

George Friedman
Editor, This Week in Geopolitics

Two things are necessary to understand a nation’s strategy. The first is to view the world through the eyes of that nation… to know what it hopes for and fears. The second is to understand that the nation’s leader is far from a free agent. He (or she) became the leader by making endless political and financial deals along the way, and he remains the leader only to the extent that he satisfies others. There are also constraints and imperatives surrounding the leader that shape his actions. Some derive from internal politics, but the most important have to do with power, or the lack of it. In order to deal with an adversary, or to crush him, understanding the world from his point of view is essential.

People tend to personalize power. We believe that the leader makes decisions as he wishes. When he does what we want him to do, he is wise and decent. When he thwarts our plans, he is a fool and a monster. This makes the world a simpler place… but also a fantasy land. It imagines that someone rules a country of millions alone and by his own whimsical neurosis. We see that personalization when people talk about Russia.

The collapse of the Soviet Union was the result of an inefficient economy, low oil prices, and extreme demands on the Soviet defense system. Its collapse also led to a cataclysmic decade. Plunging into privatization, the economy was essentially looted by those best positioned to take advantage of it. These were extremely clever and fast businessmen, the intelligence and security services, and Western investors—all of whom became extraordinarily wealthy. The rest of the Federation plunged into far worse poverty than they had experienced in the late Soviet period. What Westerners thought of as liberalization was, from most Russians’ point of view, simply devastating.

Even most of the oligarchs and the FSB (formerly KGB) could see this situation was unsustainable and realized that instability in Russia would ultimately threaten their newfound wealth.

This internal imbalance in wealth was compounded by Russia’s strategic position. The Russian Empire, and later the Soviet Union, worked to maintain a buffer zone between itself and the European Peninsula consisting by the 20th century of the Baltics, Belarus, and Ukraine.

After the collapse of the Soviet Union, these were all independent states, and the West began asserting its influence on them. From the Russian point of view, this was catastrophic. Russia had defeated Germany in World War II only because of its strategic depth. Westerners respond that surely Russians have no fear of invasion today.

But Russia remembers that in 1932, Germany was a tattered liberal democracy, hardly armed, with massive economic problems. By 1938, it was the dominant military and economic power in Europe. By 1941, German soldiers were outside of Moscow. The Russians know for a fact that intentions—and even capabilities— can change in the twinkling of an eye. What Europe or the United States intends now has nothing to do with what they could face in 10 years. Indeed, the Russians saw the contempt with which the West held them in Kosovo in 1999… where their desire that the West not bomb Serbia was brushed aside as if it had no significance.

The Russian Empire and the Soviet Union were held together by their intelligence and security services—and by money and the distribution of resources. The region was vast and disorderly. Privileges were used to hold the elites and the security services and to frighten them and others. It was no accident that the most efficient and effective institution in the Soviet Union had been the KGB. And it was no surprise that when it became clear that Russian President Boris Yeltsin’s liberalization had failed catastrophically, it was a KGB officer, deeply embedded with both the intelligence service and the oligarchs, who took over.

That it was Vladimir Putin was not the key. There were many like him. That it was an FSB man who knew where the oligarchs (some of them former KGB officials themselves) kept their money was the key. For only if the oligarchs were served could a new regime be created, and only if they could be intimidated could the new regime take firm control. No matter who the actual person was, an FSB man who knew the oligarchs well, was going to take over.

Russia had two imperatives. The first was to create order out of the chaos of the Yeltsin years. Critical to this was the strategy of using the export of raw materials to fund economic modernization. The means to do this was reversing much of the privatization of the 1990s, crushing resistant oligarchs, and aligning the rest with the export strategy. The second imperative was to restore the buffer zones to the West, accepting the Baltic’s membership in NATO, but being utterly insistent on at least the neutralization of Ukraine. Ukraine provides Russia with much needed strategic depth, forcing invading armies to stretch their supply lines before reaching major Russian cities.

It was Ukraine where, in World War II, the Wehrmacht had bled out its life. Ukraine also hosted Russia's Black Sea Fleet on the Crimean Peninsula, which gives Russia access to the Black Sea and Mediterranean. The two imperatives ran parallel.

The United States and other Western countries had their own strategy in the region, trying to replicate the Eastern European uprisings of 1989 in other nations in the former Soviet Union and elsewhere. Their goal was to create liberal democracies, and the means was to support democratic uprisings through funding non-government organizations that could shape and organize political change. From the Western point of view, the question of the Russian Federation’s borders had been settled in 1991, and the fate of other former Soviet republics was not Russia’s concern.

From the Russian point of view, the West and particularly the United States were undertaking regime change by funding anti-Russian factions under the guise of liberalization. Liberalization to many Russians was merely another word for economic looting. Russian decision makers saw these uprisings as attempting to create a network of pro-American states intended to deny Russia its buffer zone. For the Russian leadership, the American justification of human rights was simply a cover for what had to be an attempt to destroy the Russian Federation by surrounding it with hostile states along borders that were indefensible due to topography and distances.

Whether this was the American intent or whether this was a Russian misreading was immaterial. The Russians could not assume anything but the worst case.

Ukraine was the heart of everything for Russia. If Ukraine was part of the Western alliance system, Russia could not be defended. Russia believed that if the Americans were as obsessed with Ukraine as they appeared to be, their intentions could only be malign. In the Russian view, those malign intentions dated back to 2004 when the US underwrote the Orange Revolution in Ukraine, the same year the Baltics were admitted to NATO. The Russians reached a conclusion: The United States was not only a hostile power, but was actively seeking to undermine Moscow’s regional influence.

In 2008, seven weeks before Lehman Brothers collapsed, the Russians went to war with Georgia. The issue over the security of the Caucasus was really secondary to a simple message the Russians delivered to Ukraine. Georgia was a de facto American ally, and from the perspective of Moscow strategists, US entanglement in Iraq and Afghanistan meant Washington was unable to come to Georgia’s aid. The message to Ukraine: this is what American guarantees are worth. It was a warning not to stake national security on American guarantees. To a great extent, it worked, as Ukraine shifted from a neutral to a pro-Russian stance.

Starting in late 2013 and again looking at it through Russia’s eyes, the Americans resumed their attempt to subvert Ukraine by underwriting the uprising in Kiev. This time, however, it was the Russians who failed their allies.

Russian intelligence clearly failed to understand what was happening in Kiev and failed to counter it. Russia “seized” Crimea officially, but Crimea was already a major Russian base by treaty and was dominated by the Russians. They changed the legal status… not the correlation of forces. In eastern Ukraine, their attempt to trigger a pro-Russian uprising failed, and the Ukrainian forces, as poorly trained and armed as they were, ultimately fought the Russians to a standstill. If 2004 was a warning to others in the region about American weakness, 2014–15 was an American warning to them about Russian weakness.

The events of 2008 led to Russia’s economic crisis of 2014. As I have written previously, the economic crisis in Europe and the United States led to the decreased appetite for Chinese exports. This in turn lessened China’s need for importing raw materials. After the markets caught up with reality, oil prices plunged, and with them the viability of the Russian economy. Behind this was a much greater problem: the failure of Russia to use oil revenues to modernize its economy. The deals Putin made to become president required the diversion of funds from that purpose to gaining political support for Putin. The state could not both manage the support base of its regime and modernize the economy. It was an economic and managerial impossibility. Thus, Russia was massively vulnerable to energy price cut offs. It also lost one of its major weapons—the ability to cut exports of gas—because Russia urgently needed that cash flow and because the Europe ans had worked hard to diversify sources of energy.

Thus, in 2014, Russia faced a dual crisis. It had failed to prevent the installation of a pro-Western government in Kiev, and its economy had been struck a terrific blow.

Russia feared that, given its imbalance from the two blows, the United States would follow up with further aggressive moves. When a boxer is staggered, he goes into a clinch.

In this case, the Russians understood that the Americans’ vulnerability remained an overextension in the Middle East. Russia also recalled that the overextension in 2008 had paralyzed the United States in Georgia. For Russia, the period from Sept. 11, 2001 until 2014 was a period in which the United States was so obsessed with the Middle East, it had no resources to place elsewhere. Russia’s strategy, therefore, was to prolong the American focus in the Middle East, while creating the basis for a settlement over Ukraine.

From a military sense, the Russian intervention in Syria was of little consequence. A small number of fighter planes were sent with enough troops to protect them.

However, from the psychological point of view, the Russians hoped to transform their position. First, they had demonstrated the ability to project power far from Russia’s borders. Second, Moscow’s intervention was designed to make it appear that Russia had saved the Assad regime, and therefore it drove the decision. The US had no intention of overthrowing Assad while IS was the likely beneficiary.

However, the Russians made the US appear to be an equal power. This was critical to Russia both overseas and at home.

Currently, the Russians are trying to increase their influence, reaching out to Iran and to the Taliban in Afghanistan, as well as talking to the Israelis. They are brilliantly creating the sense of Russia as a great power and causing the US potential grief. At the same time, the Russians have sought to minimize conflict in Ukraine. The goal is either to split Germany (which wants a settlement) from the United States, or to get the US to agree to a settlement. Such a settlement would include an agreement that Ukraine can have a pro-Western government, but that no Western military assistance or forces would be made available. Eastern Ukraine would be given some autonomy. And Crimea would return to some prior condition in which Russia is the overwhelming power, but Ukraine has some formal rights.

That would be the Russian goal. But it should be noted that Russian strategy is built on a base of sand. Syria is intended to roll back the reality of Ukraine, but nothing can roll back the reality of the Russian dependence on a deeply discounted resource for its economic survival. Russia is engaged in a massive defense buildup in the face of this economic crisis. And its deployment in Syria is far from decisive. It can reach out to Iran and others, but they are aware of the limits of Russian power.

In the long run, the Russian Federation is facing the same problem as the Soviet Union did… and will thus weaken.

Its current strategy is constrained by weakness but compelled by the fact it is the only option available. A strategy of bluff follows from the reality of weakness when that weakness threatens to be fatal. Meaning that the economic and strategic weakness we see makes Russia more of a risktaker in the coming years, not less.  

Having been unable to overcome its core economic weakness and having a clearly dysfunctional intelligence service on which it must depend for national unity, Russian strategy appears logical. Its economic weakness is deeply rooted in its political arrangements. The FSB’s weakness stems as much from its deep involvement in the complex financial arrangements that run Russia as the challenges of maintaining the security of the Federation. Russia’s strategy is not the result of miscalculation but of hard realities.

And, therefore, any strategy based on bluffing strength when weakness is manifest is unlikely to succeed. Russia is trying to buy time, but time may hurt rather than help. The economic bleeding will not stop soon. The United States has time on its side and can afford to be clumsy.
In fact, that clumsiness is built into its national strategy, which is a story for a later date.

Record $475bn parked with Fed at year end

Pedestrians walk past the New York Federal Reserve building in New York, U.S., on Wednesday, Oct. 17, 2012. A Bangladeshi man was arrested for allegedly plotting to bomb the New York Federal Reserve in lower Manhattan as part of a sting operation by federal authorities who provided the suspect with fake explosives. Photographer: Scott Eells/Bloomberg©Bloomberg
New York Federal Reserve building
The Federal Reserve’s most important tool for setting interest rates absorbed a record $475bn of money from financial institutions in its last monetary operation of 2015, in another sign that one of the central bank’s main methods of draining liquidity from the financial system is working.
The New York Fed said that the US central bank had awarded $474.59bn in one-day fixed-rate reverse repurchase agreements to 109 counterparties in an auction on Thursday, more than a third higher than the previous record set at the end of the second quarter in 2014.

The agreements allow qualified financial groups — including traditional banks and money market funds — to park cash at the Fed overnight in exchange for Treasury securities and 0.25 per cent interest.

Analysts and economists have characterised the reverse repo facility, which controls the lower bound of the Fed’s target rate, as crucial to its ability to set short-term rates, and as among the central bank’s most potent tools.
Earlier this month the Federal Reserve pulled off a historic move, lifting its benchmark rate for the first time in nearly a decade from a range between 0 and 25 basis points to 25-50 basis points.

In its effort to ensure a smooth rate rise, the markets desk of the New York Fed said in December that it stood ready to offer $2tn of Treasury securities on its balance sheet as collateral for the overnight operations, removing a $300bn daily cap.
Ward McCarthy, an economist with Jefferies, said that he had been concerned before the lift-off about the Fed’s ability to control its target rate.

“This concern was related to the lack of concrete detail about the post-lift-off structure of the [reverse repo programme] and the possibility that it would not be able to absorb a sufficient amount of reserves to keep the fed funds rate above the lower bound of the target range,” he said.

“With two weeks having passed since the lift-off announcement, it does not appear that the Fed is having any trouble keeping the effective fed funds rate between 25 and 50 basis points.”

The $475bn awarded on Thursday matures on January 4, when markets reopen following the new year holiday, and compares to $277bn taken at an auction on Wednesday.

Banks tend to participate in the reverse repo programmes to improve the snapshot of their balance sheets at quarter- and year-end, ahead of stress tests undertaken by financial regulators.

The overnight reverse repo facility works in concert with the Fed’s interest on excess reserves programme, in which the central bank pays interest on cash banks park in its coffers.
However, since the interest on excess reserves programme is limited to approved banks, not all lenders in the federal funds market have access to the 0.5 per cent rate — the current ceiling of the Fed’s target range.

2015- So Close, Yet So Far

football animated GIF


Bulls tried hard to close the year green for the most important stock market index—the S&P 500—but by the close of trading for 2015, they couldn’t pull it off.

Markets started the day quite weakly but a rally in crude oil mid-day got markets moving higher until an early close of trading met with exhaustion.

The day to day two-way action was a result of weak data mixed with ultra-light trading volume. As I indicated prior to the trading week, unless you had an agenda, you were better doing nothing. It was a week of short squeezes meeting bearish realities.

Market sectors moving higher included: Oil (USO), Energy (XLE), Natural Gas (UNG), Russia (RSX), India (EPI), Taiwan (EWT), Mexico (EWW), Malaysia (EWM), Bonds (TLT) and Volatility (VIX).

Market sectors moving lower included: Most everything else.

The top ETF daily market movers by percentage change in volume whether rising or falling is available daily.

Volume as you might expect was quite light once again. Breadth per the WSJ was negative.

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12-31-2015 5-28-42 PM
12-17-2015 9-04-44 PM Chart of the Day

12-31-2015 5-28-59 PM ung

Charts of the Day


    SPY  5  MINUTE














    The NYMO is a market breadth indicator that is based on the difference between the number of advancing and declining issues on the NYSE. When readings are +60/-60 markets are extended short-term.


    The McClellan Summation Index is a long-term version of the McClellan Oscillator. It is a market breadth indicator, and interpretation is similar to that of the McClellan Oscillator, except that it is more suited to major trends. I believe readings of +1000/-1000 reveal markets as much extended.


    The VIX is a widely used measure of market risk and is often referred to as the "investor fear gauge". Our own interpretation has changed due to a variety of new factors including HFTs, new VIX linked ETPs and a multitude of new products to leverage trading and change or obscure prior VIX relevance.

Da Boyz must have left their posts after the early ramp higher allowing sellers to hit the tape.

Early returns for 2015 show the S&P 500 Index down -0.73% and DOW down -2.2%.

That’s it for 2015 folks and we’ll see you next year.

The Fascism of the Affluent

Joschka Fischer
. Wealthy man and woman in fashionable urban area.

BERLIN – There is an alarming political shift to the right occurring on both sides of the Atlantic, linked to the growing force of openly chauvinist political parties and figures: Donald Trump in the United States, Marine Le Pen in France. Other names could be added to the list: Hungary’s prime minister, Victor Órban, who advocates “illiberal democracy,” or Jarosław Kaczyński and his quasi-authoritarian Law and Justice party, which now rules Poland.
Nationalistic, xenophobic political parties had been on the rise in many European Union member states long before Syrian refugees first arrived in appreciable numbers. There has been Geert Wilders in the Netherlands, the Vlaams Blok (succeeded by today’s Vlaams Belang) in Belgium, the Freedom Party of Austria, the Sweden Democrats, the Finns Party, and the Danish People’s Party, to name just a few.
The reasons for such parties’ rise and success vary greatly at the national level. But their basic positions are similar. All of them are raging against the “system,” the “political establishment,” and the EU. Worse, they are not just xenophobic (and, in particular, Islamophobic); they also more or less unashamedly embrace an ethnic definition of the nation. The political community is not a product of its citizens’ commitment to a common constitutional and legal order; instead, as in the 1930s, membership in the nation is derived from common descent and religion.
Like any extreme nationalism, the current one relies heavily on identity politics – the realm of fundamentalism, not reasoned debate. As a result, its discourse takes an obsessive turn – usually sooner rather than later – in the direction of ethno-nationalism, racism, and religious war.
The rise of extreme nationalism and fascism in the 1930s is usually explained in terms of the outcome of World War I, which killed millions of people and filled the heads of millions more with militaristic notions. The war also ruined Europe’s economy, leading to a global economic crisis and mass unemployment. Destitution, poverty, and misery primed publics for toxic politics.
But conditions today in the West, in the US and Europe alike, are rather different, to say the least.
Given these countries’ affluence, what accounts for their citizens’ attraction to the politics of frustration?
First and foremost, there is fear – and apparently a great deal of it. It is a fear based on the instinctive realization that the “White Man’s World” – a lived reality assumed by its beneficiaries as a matter of course – is in terminal decline, both globally and in the societies of the West. And migration is the issue that brings that prognosis home (not just metaphorically) to today’s angst-inspired nationalists.
Until recently, globalization was largely viewed as favoring the West. But now – in the aftermath of the 2008 financial crisis and with the rise of China (now turning into this century’s leading power before our eyes) – it has become increasingly clear that globalization is a two-way street, with the West losing much of its power and wealth to the East. Likewise, the world’s problems can no longer be suppressed and excluded, at least not in Europe, where they are now quite literally knocking on the door.
Meanwhile, at home, the White Man’s World is threatened by immigration, globalization of labor markets, gender parity, and the legal and social emancipation of sexual minorities. In short, these societies are undergoing a fundamental shock to traditional roles and patterns of behavior.
From all these profound changes has arisen a yearning for simple solutions – to build fences and walls, for example, whether in the US South or in southern Hungary – and strong leaders.
It is no accident that Europe’s new nationalists view Russian President Vladimir Putin as a beacon of hope.
Of course, Putin has no appeal in the US (the world’s greatest power won’t turn away from itself), or in Poland and the Baltic states (where Russia is regarded as a threat to national independence). Elsewhere in Europe, however, the new nationalists have made common cause with Putin’s anti-Western posturing and pursuit of Great Russia.
With the new nationalism threatening the European integration process, France holds the key.
Without France, Europe is neither conceivable nor practicable, and a President Le Pen would certainly sound the death knell for the EU (as well as bringing disaster for her country and the continent as a whole). Europe would then withdraw from twenty-first-century world politics.
This would lead inexorably to the end of the West in geopolitical terms: The US would have to reorient itself for good (toward the Pacific), while Europe would become Eurasia’s appendix.
The end of the West is a dim prospect, to be sure, but we aren’t there yet. What is clear is that more depends on the future of Europe than even the most vociferous advocates of European unification had previously believed.


Winners and Losers in the Fed’s New Era

Shares of large companies with lots of cash and little debt could shine in 2016.

By Ben Levisohn           

Just as Bob Dylan going electric at the Newport Folk Festival in 1965 marked the end of one era and the beginning of the next, the Federal Reserve’s rate hike has likely marked the end of one investing paradigm and the beginning of a new one. Knowing how to navigate it could make the difference between boos or cheers in 2016.

Ever since the Great Recession, the Fed has been intent on boosting the economy by making money as cheap as possible. We can argue about what it’s done for the economy, but it has been great news for stocks, as well as companies that could borrow money cheaply and use it to spur growth.

With Fed Chair Janet Yellen’s decision to raise rates, however, those companies are likely to come under pressure, as investors look to businesses that don’t need easy money to thrive.
Instead, 2016 might be the year to focus on stocks that have been punished for not taking advantage of low rates: large companies with cash on their balance sheets and minimal debt.

While cheap money has been a boon for everything from small companies to highly leveraged concerns, it isn’t always what it was cracked up to be. For evidence, just look to the energy sector, which used access to cheap financing to drill, baby, drill—until the market was flooded with too much supply. As a result, energy stocks have dropped 21% this year.

What has happened in the oil patch might be just the beginning of the stress, now that the Fed has started hiking interest rates. Media stocks used cheap money to create more television shows and movies than anyone could hope to watch, and pay outrageous prices for sporting events, notes Michael Shaoul, chairman and CEO of Marketfield Asset Management. That glut has caused content to become worth less—Star Wars notwithstanding—and the problem is likely to get worse before it gets better. “The amount spent has been enormous,” Shaoul says. “Media is looking vulnerable.”

Other sectors that could be hit by oversupply include developers of multi-family dwellings; 360,000 rental units were built in 2014, more than in any year in the prior two decades. Even biotech companies could look vulnerable, if the Food and Drug Administration takes a dim view of the supply of new drugs hitting the market.

There’s a recipe for avoiding that kind of pain: Go where the money is. For years, companies that held massive amounts of cash on their balance sheet have been punished by investors; the companies in the Standard & Poor’s 500 with the most cash trade at a valuation roughly equal to those with the most debt, despite the fact that they’ve traded at a 50% premium, on average, since 1986, according to BofA Merrill Lynch data. That makes sense, considering that earning even a minimal return on cash was nearly impossible with rates near zero, putting a drag on returns.

With the Fed tightening, however, that cash will start to earn, well, something, and companies that need to borrow will have to pay more, says BofA Merrill Lynch strategist Savita Subramanian. That suggests, she says, “that companies with healthy balance sheets that can fund their own growth could re-rate, while levered companies could feel more pain.”

That means favoring high-quality over low quality companies, and large stocks that can fund their own operations over small companies dependent on capital markets for financing.

There’s another reason to favor large stocks over small: liquidity. Keeping rates low was just one part of repairing the U.S. economy. But regulators have also set out to make the financial system safer. To do so, they’ve made it difficult—if not impossible—for banks to step in and buy when everyone else is selling, instead forcing investors to find someone to take the other side of the trade. That means that some investments—think small-cap stocks and junk bonds—will become more difficult to buy and sell, as this month’s demise of the Third Avenue Focused Credit fund suggests. Small-company stocks, which have traded at a premium to large-cap stocks for much of the past 16 years, could end up trading at a discount, Subramanian says.

STILL, IT MIGHT BE worth taking a look at a small company if it’s already cheap, and holds oodles of cash. Ralph Coutant, portfolio manager at Matarin Capital Management, points to RetailMeNot (SALE), an online coupon marketplace that went public in 2013. The stock is cheap; having dropped 29% so far this year, after plunging 49% in 2014 due to falling earnings and revenue, shares now trade for just 1.1 times book value. The company’s saving grace is the cash on its balance sheet—$271 million, or $196 million minus debt—and $50 million annually of free cash flow.

No, this isn’t the high-flying growth stock everyone hoped it would be when it went public. But “it doesn’t need to move from good to great for investors to win,” Coutant says. “It just needs to move from bad to average.”

sábado, enero 02, 2016



The centre of Christianity

TODAY much of the world will grind to a halt for a man born approximately 2,000 years ago in a small village in modern-day Israel. Around the globe, shops cease trading, banks are shuttered, stockmarkets fall silent and families gather together in festivity. In total, five billion people across the world will enjoy a day off work ostensibly to celebrate the birth of Jesus. Americans alone will have spent around $150 billion on gifts for loved ones. Christmas feels as popular as ever. But what of Christianity itself?

There are 2.4 billion people across the globe who identify as Christian, according to data from the World Christian Database. But in practice, how many of them go to church on a regular basis? To answer that question, The Economist analysed survey data from the European Social Survey and World Values Survey, which together asked 140,000 people across 89 countries about their religious affiliation, attendance and other socio-economic questions. Using this data we then predicted values for the rest of the world based on their similarity to other countries.

Church attendance tends to be low and has been falling across the much of the rich world. Just 70m of Western Europe’s 375m adults attend church at least once a month. Meanwhile, in sub-Saharan Africa and Latin America, the church appears as strong as ever. There are 277m adherent Christians in sub-Saharan Africa and 250m in Latin America. As Christianity has shifted southwards, that has moved the centre of Christianity to Niamey, the capital of Niger (calculated by taking the Christian-adherence weighted-average latitude and longitude of countries' capital cities). As the crow flies that is 2,433 miles from Bethlehem. It's unlikely that even someone of Jesus’s prophetic powers could have foreseen that 2,000 years ago.