It is hard for me to see a full-blown war between Russia and Ukraine. There are so few cultural differences between these two countries. Ukraine has its own language, but almost everyone (outside of small villages) speaks flawless Russian. If there is a war between these two countries, it will be a civil war.
Ukraine is being pulled in three directions. The western side of the country, the one that is geographically closest to Europe and more industrialized, wants to be part of Europe and wants to retain its Ukrainian culture. The eastern part is heavily populated by Russians and wants to be part of Russia. And then there is Crimea, the stepchild that feels it has been neglected by its new parent (Ukraine) and wants to be closer to its biological parent (Russia). Just like Sochi, which is also on the warm Black Sea, Crimea is a tourist destination, and from what I’ve heard it generates a lot of tax revenue that it sends to Kiev but gets little back.
I don’t see Russia conquering Ukraine for one simple reason: Ukraine is not Norway, which has an $800 billion sovereign fund and is extremely wealthy. (I hope I’m not giving Mr. Putin new ideas here.) Ukraine is as poor as Russia would be without oil and gas. At $3,867, the country’s GDP per capita is barely one quarter that of Russia’s ($14,037). There are no synergies between the two countries except that if they merged Russia would have to worry less about the natural gas pipeline that goes through Ukraine to Europe. Putin is anything but dumb or economically illiterate; integrating Ukraine into Russia would be like tying a giant weight to Russia’s neck.
Trying to read Putin’s true intentions is difficult — or maybe not. Putin wants to walk a fine line and not veer too far from the Russian constitution. (In another life he would be a great U.S. lawyer.) Let me give you an example of how he operates. The Russian constitution allows the president only two consecutive (important word) terms. Putin probably could have done a Bloomberg and changed the constitution to run for a third term, but he didn’t. He helped his then-puppet prime minister, Dmitry Medvedev, to become president and then championed change in the Russian constitution to extend the presidential term from four to six years. At the end of Medvedev’s first term, Putin then ran for president again and won. He guaranteed himself power for 12 years without violating the constitution.
Putin wants to nudge Crimea toward autonomy from Ukraine. Crimea was going to hold a referendum on May 30, which now will be pushed up to March 25. You may say, didn’t Putin just invade another sovereign nation? By placing troops in Crimea, Russia violated international law, but a strong country can justify breaking international law if it considers its actions morally right. The U.S. broke international law by sending Team Six to Pakistan to kill Osama Bin Laden. The U.S. did not ask and never got permission from Pakistan for our military to cross their borders, so we did violate international law; but not a single U.S. citizen (including present company) was upset about it.
Also, the Russians don’t consider Crimea to really be part of Ukraine because until 1954 it belonged to Russia. Half of its population is Russian. Currently, Russians see their troops in Crimea as peacekeepers, protecting their fellow Russians from “Ukrainian nationalists.” Putin is placing a bet that the upcoming referendum will legitimately (at least in Russian eyes) make Crimea autonomous from Ukraine. Ukrainian law doesn’t recognize this referendum as legitimate, but a few thousand troops on the ground and the presence of the Russian Navy may change Kiev’s mind.
An autonomous Crimea is a Russian Crimea. Maybe Putin, by taking advantage of political instability in Ukraine, will achieve what he really wants: control of a very strategic warm-water port without spilling a single drop of blood. He hinted at as much on Tuesday in his first public comments since the incursion, telling Russian media that he saw “no need” to use force in eastern Ukraine.
The international community, including the U.S., may show their outrage, but their options are limited to unfriending Russia on Facebook or — worst case, if things really escalate — unfollowing Russia on Twitter. We will not go to war with Russia over a peninsula that used to belong to Russia. If this story ends at Crimea (no Russian troop movements toward Kiev), then Europe and the U.S. will issue some empty threats and the G8 will revert to the G7 for a while. But international rhetoric will die down, especially if Crimean voters opt for autonomy. Russia will keep its “peacekeepers” in Crimea with the blessing of newly minted “autonomous” republic (which on paper will still be part of Ukraine).
Finally, as a bonus to Russia, Ukraine may become ineligible to join NATO, as its charter prohibits new members that have ongoing territorial disputes. So Putin may be playing three-dimensional chess while the rest of the world is still learning checkers. Or perhaps he is just an egotistical maniac who wants to bring the gang (the former Soviet republics) back together. Time will tell.
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Vitaliy N. Katsenelson, CFA, is Chief Investment Officer at Investment Management Associates in Denver, Colo. He is the author of The Little Book of Sideways Markets (Wiley, December 2010). To receive Vitaliy’s future articles by email or read his articles click here.
Investment Management Associates Inc. is a value investing firm based in Denver, Colorado. Its main focus is on growing and preserving wealth for private investors and institutions while adhering to a disciplined value investment process, as detailed in Vitaliy’s book Active Value Investing (Wiley, 2007).