Russia’s invasion of Ukraine caught numerous experts by surprise. And what’s more, the market effects of that war have also been highly unpredictable. We’re once again at a crucial moment, with Putin having called up reservists in an apparent escalation of hostilities. So why do people keep getting this wrong, and how can investors think about the war (and geopolitics more broadly) in a manner that’s productive? On this episode, we speak to geopolitical risk expert Marko Papic, the chief strategist at Clocktower Group, to understand what's going on -- and what’s next. The transcript has been lightly edited for clarity.
Key insights from the pod:
What the mass mobilization says about the state of the war (3:45)
What does an endgame look like? (5:37)
What markets got wrong about commodities (8:50)
What is “geopolitical alpha”? (18:52)
How investors can usefully analyze geopolitics (25:34)
Russia’s poor military track record (30:59)
China’s Covid Zero logic (37:42)
Vladimir Putin’s future (40:54)
Tracy: (00:09)
Hello and welcome to another episode of the Odd Lots podcast. I'm Tracy Alloway.
Joe: (00:14)
And I'm Joe Weisenthal.
Tracy: (00:16)
Joe, what's going on in Russia?
Joe: (00:18)
This is such… I can’t… a leading question. Like the idea that I would be able to like answer that in any meaningful way that doesn't make me sound like a complete idiot...
Tracy: (00:33)
I'm not trying to set you up to sound like an idiot!
Joe: (00:35)
You’re trying to set me up!
Tracy: (00:36)
I'm trying to start the podcast with a summary of current events. But there was some big news out of Russia recently, which was they were calling up reservists and basically forcing them to go to Ukraine and fight in the war. And the reason I bring it up is because it wasn't just big, topical geopolitical news, but it became a big thing in the market as well. We saw quite a bit of reaction to it, and it kind of crystallized in my mind this idea about just how hard it is for investors to try to judge these geopolitical risks.
Because on the one hand I saw some people going, “You know, this is great for the West. It means that Putin is really struggling right now and Ukraine is gonna win the war and everything's gonna be fine.” And then I saw some commentary basically saying, “This is a massive escalation, and if anything, we should be seeing risk premium on things like European assets and natural resources and grains and things like that actually going up.” So the fact that there were these two extremely different interpretations of the same move just really struck me.
Joe: (01:48)
Yeah, I mean, look, it's so hard to understand, like, what this means for markets. It feels like we're in some sort of uncharted territory, and maybe some people will perceive that to be positive that Russia has suffered setbacks in its war, that it's lost some territory that it had captured in Ukraine.
But then others will say this just massively increased the risks. Putin gave a speech that was widely perceived to be highly bellicose. I think it's just a sense of, like, extreme uncertainty and chaos. And there's already so much going on and we're recording this September 23rd, when there's just so much concern about inflation and energy and monetary policy and recession and all these other things. And on top of this huge geopolitical wildcard I feel like many investors are truly swimming at sea, experiencing things that they have never seen in their careers.
Tracy: (02:43)
Right? And it's funny kind of how earlier this year, how many investors suddenly stood up and declared themselves to be like military experts and World War II armchair strategists. But even if you think you know everything about how a military invasion actually works, that doesn't naturally translate itself into, well, here's my investment strategy playing off of that.
So in an effort to understand exactly what is going on with Russia and Ukraine, and also in an effort to understand exactly what it might mean for investors, we're going to be speaking with Marko Papic. He is the partner and chief strategist at Clocktower Group. He is also the author of Geopolitical Alpha: An Investment Framework for Predicting the Future. So he basically wrote the book on this topic. Marko, thank you so much for coming on Odd Lots.
Marko Papic: (03:31)
It's such a pleasure and honor. I love this show, so it's great to be on.
Tracy: (03:35)
Thank you. So maybe just to begin with: Russia calling up its reservists, what was your initial take on that, your interpretation?
Marko: (03:45)
Well, I mean, I think that it's clearly a sign that things have not gone well for Russia in Ukraine. Russia has a professionalized military force in 30 years of post-Soviet reforms, like 30 years of effort to reform. Russian military has focused on deepening and strengthening its strategic rocket forces, so nuclear weapons for good reason, and creating a professional expeditionary force that can fight quick, short wars in its near abroad, such as the 2008 Georgia intervention as a case in point. And so the fact that they now have to, like, revive the third pillar, which they have eroded on purpose and for good reason, like, we're not gonna need to mobilize ever again. We have no cause, no one's gonna attack us. The fact that they're now like resorting to something that they've actually let follow, that they've not focused on, that they've eroded in the efforts to strengthen the other two parts of their reforms.
It just tells you that it, it is a desperate move and it's not clear to me that it's going to effectively escalate the war. So my initial reaction was that this is a nothingburger, you know, it's a geopolitical nothingburger, if you will, because at best Russia can use, let's say, a hundred thousand to maybe 300,000 troops. If they manage to get them all activated as rear guard, they can help support supply lines. They can defend the rear of Russian forces, allowing the veterans and the professionals who have been fighting at Ukraine to step up and defend against the Ukrainian offensive. I think this gets us faster to an equilibrium, to a stasis, to an established line of control. I don't think this allows Russia to really effectively widen the conflict in Ukraine.
Joe: (05:32)
So what does this stasis or equilibrium look like in your view?
Marko: (05:37)
So that's a very important question, Joe, and I think it's a controversial view that I hold, but basically most wars that don't end in a capitulation of one side to another end up in some form of a stasis where a line of control is established. It's a geographical reality where the two forces basically establish, you know, a frontline that ossifies, that is well defended.
Think about the Korean War. You know, the Korean War has not ended. It is still going on. There has not been a peace treaty between the two Koreas, but the two Koreas are de facto sovereign entities defined by a line of control that was established at the end of the conflict. The Cyprus conflict, which basically pitted the Greek-supported Cyprus versus the Turkish-supported norther Cypriots, ultimately ended in a line of control. And the country Cyprus has a line of control that, in de-facto terms, creates the Northern Turkish Cyprus, you know, which is not recognized, but is a political entity that exists. Another conflict that basically ended in a line of control, the Dayton peace accords in Bosnia, was also concluded. And the current, you know, split between Republika Srpska and the federation, the Bosnia and Herzegovina federation of the Croats and the Muslims, is defined by a line of control.
And usually what happens at the end of the war, as both sides are getting exhausted, they accelerate their military maneuvers in an effort, because they know what's coming, and what's coming is some sort of a negotiated ceasefire that will establish borders for a long time. So what you do is you accelerate offensives. We saw that ahead of the Dayton accords and after the Dayton accords in Bosnia, where the Serbs went on a huge offensive trying to establish as much territory as they could before the bargaining began.
And I think that's what's happening right now. We're in the stage where the Ukrainians are trying to get as much as they can through their offensive, and the Russians are responding by saying. like, we need to halt this offensive because when the line of control is established, we need to prove domestically to the Russian population that the war was worth it and that we acquired some territory. So I think that's what's happening right now. And a lot of the commentary out there is basically saying the war is going to last forever. Now that may objectively be true, just so we're clear. Like again, Korean war is still going on, guys, right? It's never been, it never ended. So while, you know, armchair geopolitical strategists may be right that this war may continue forever, I think the market has stopped caring about this war, honestly, I think like three months ago.
Tracy: (08:16)
Yeah, I kind of agree with that. And this sort of goes back to Joe when we were talking about China and the idea that in a normal environment everyone would be talking about basically the Chinese economy being, well, large parts of it being closed, that impacting manufacturing, the housing crisis in China. But there's so much going on in developed markets with yields and inflation that it just seems to have fallen by the wayside. And a similar thing with Russia, even though these two very big developments, China and Russia, are arguably driving the inflation situation.
Marko: (08:50)
I would argue that China is very relevant still from a macro perspective. I mean, one of the reasons I've been short in commodities since May is China, you know, we have a very bearish view of China. But Russia, I think the Russian involvement in this war has led to some of the most fantastical, and I would argue idiotic, sell -side research I've ever read in my life. I mean, look, this is, this is a profound moment in world history. I don't wanna understate that.
But the argument that this war is going to cause some sort of calamity in the commodity markets has been epically wrong. I mean, look at the chart of like Brent and wheat, they are down to pre-war levels. But you know, there are far more important things going on in the world than the Russia Ukraine conflict for the, like, the big macro assets, namely what the Fed is doing. And of course, I would argue China too, to the slow down in the US economy and so on. So I think one of the biggest mistakes I think that a lot of sell-side research did at the beginning of this war, is imply supply loss of commodities out of Russia. And that had to do with the EU oil embargo. Very quickly after the EU oil embargo was imposed in Russia, it became clear to me at least that it was a PR effort, like the EU embargo against Russia, the Western embargo against oil is a PR effort. It is not a genuine effort to remove Russia's oil revenue.
Why do I say that? Because when the US imposed sanctions against Iran, it also imposed secondary sanctions, which are very effective. So if you're a Chinese or an Indian company wanting to buy Iranian crude, you are at risk of running a fall of the US Justice Department. With Russia, that was like maybe debated for a week. And then everybody was kind of like, yeah, let's not do that. Why? Because the oil embargo against Russia is designed, with its six month implementation phase, to literally allow Russia to find other customers. Literally. And that's happened beautifully. There's no loss of supply from Russia. There might be at the end of the year, maybe 500,000, 300,000 barrels, but that's it. And given the demand problems with China and US slowdown, like who cares about that? So there's, there was a huge overstated risk of like the shutting of production of Russia, problems with logistics. None of that has happened. And the reason is that, you know, at the end of the day, Emmanuel Macron and Scholz and the other leaders of Europe simply want to be able to say, at the end of the year, we are not importing any more oil from Russia.
The fact that China and India are gorging themselves, bathing themselves, in Russian crude is not like a bug. It's a feature of the sanctions. And so that's the first issue that I think overstated the relevance of the conflict. The other one is the idea that Ukraine is somehow existential to Russia, you know, and that, and that comes from reading some of President Putin's essays and so on. And I would argue that it isn't. But this is more than a philosophical question because if you're an investor and you think that Ukraine is existential to Russia, then you think they will double, triple, quadruple down on the conflict. But if you understand that Ukraine and the war in Ukraine is merely a way to export domestic political angst abroad, if that is your perception, then yeah, this conflict could very well taper off, enter stasis, and ,you know, just be one of many conflicts that we're going to experience in this new era of geopolitical multipolarity.
Joe: (12:44)
You mentioned that several commodities are actually lower than they were at the beginning of the war. Oil is more or less there and wheat has come off a lot. The one other thing though that does feel very central, and very central to macro, is what happens with the future of natural gas. And we know that supplies have been diminished, right?
I believe the pipeline has been curtailed and electricity prices, gas prices in Europe, are insane. And we've been talking a lot about, you know, how they're gonna get through the winter and what's gonna happen in the following winter and so forth. What do you see on the natural gas front? And do you see, you know, the thing I've been thinking about, is this sort of reorientation of the world such that in the future it seems likely that Europe will continue to get a lot more of its gas from the United States? It seems like a pretty big significant restructuring of world energy flows.
Marko (13:01)
So there's, I think, three things that we need to discuss here. First is the short-term price of natural gas. You know, in the short term Europe has had to find alternatives to Russian natural gas. And those alternatives have been extremely expensive and that has driven up the prices. We all understand that.
There's a couple of things that is interesting to me. First of all, if the war in Ukraine was so existential to President Putin, why did he not cut off natural gas early, you know, in March or April? Why did he wait until the late summer to really do that? It seems like an error or maybe it seems like an effort to maintain a relationship with Europe so that you can turn the pipes back on once you proclaim victory, however modified those goals may be later on. The second thing that I think President Putin didn't expect is the slowdown in China. The slowdown in China allowed there to be sufficient amount of LNG cargos floating around for Europe to kind of grab, you know, that was another miscalculation.
Now the short term spike in natural gas prices is currently being extrapolated by a lot of investors into other assets such as euro, which is at parity, although that's for other reasons too, the Fed hawkishness and so on. But like the euro is a good example. Or for example, if you look at Euro Stoxx 600 industrial sector relative to S&P 500 industrials, they're at like decade lows. You know, I mean basically de-industrialization is being priced in as investors extrapolate current natural gas prices into the future. I think that's like stupid, you know, because the current increase in natural crisis, uh, natural gas prices in Europe is unsustainable. That's a short term issue and it's unsustainable for a number of reasons. First of all, if the Ukraine war enters stasis, if it ossifies along a line of control, it is no longer in Russia's interest or Europe's interest to, from Russian perspective, not make the money off of natural gas. From Europe's perspective, to continue to shoot itself in a knee by not accepting Russian natural gas.
So once the war ossifies, which I think is coming within months, there is going to be an incentive to resolve this impasse. And so that's the first issue. The second more longer term issue is what happens, as you mentioned, Joe, as America becomes more involved in the LNG trade, presumably the US is going to now export natural gas in order to benefit from a global price of natural gas, which is extremely higher than the domestic price.
By the way, Russia has 50 BCM of LNG capacity coming online in a couple of years, which is ironic because it means Russia will be sending those cargos to European ports even though it won't be sending it through pipelines. I mean, this is kind of like the cynical view of what's gonna happen over the next couple of years. But why is this important? It's really important because if you're an investor right now betting on deindustrialization of Europe, don't you realize what's gonna happen in the next couple of years?
What's gonna happen in the next couple of years is we're gonna get the Brent price of natural gas. We're gonna have a global price of natural gas, which will be the LNG globally traded price, which will raise cost domestically in the US. It won't lower them, it will raise them. And that's going to be a disadvantage to American industry, not European. European prices of natural gas will start to approach and approximate that of the US and vice versa, which will be a headwind to US manufacturing. And the final issue that I will point out is something that a lot of investors are ignoring. Europe has had higher electricity prices for industrial users for two decades. Like I have a chart of that. This is obvious. And yet Germany has not lost any export share, nor has America gained export share. So unwind that for a second, for the last two decades, thanks to the shale revolution, the United States has had a price advantage on electricity and natural gas. It's done nothing with that price advantage, nothing, it's gained no competitiveness. So why would you extrapolate the current crisis, which as I say is temporary, into the future and somehow bet against the European industry. Now obviously there are certain industries, you know, that are going to move to the US, those that use natural gas as a feed stock. And you know, we can sit here and be like, “Oh my god, you know, like European fertilizer sector is done, let's short Europe.”
I mean, you know, sure there will be parts of the industrial capacity of Europe that will have to move because natural gas is a feed stock. But I'm not betting against European industry because of this crisis. In fact, I love the valuation. If you're a long term investor, you plow every dime you have into European industry, especially because Wall Street Journal has an article yesterday saying like, Europe is de-industrializing, this is in the price guys. And I think it's completely an unsophisticated view extrapolating linearly a current crisis into the future, which makes no sense.
Tracy: (18:35)
So maybe just to back up for a second, how should investors be approaching geopolitical risk and conflict in general? And then secondly, is there something about the Russia-Ukraine conflict that makes it different because it involves so many commodities and inputs?
Marko: (18:52)
Yeah, so answer the first question, there's a couple of things. First of all, you know, there's, there's a concept that I call geopolitical alpha, which is when the market misprices risks either to the downside and then, you know, you can profit by generating returns. But there's also geopolitical beta, which is understanding the long-term trends and trying to figure out how to write them in. In case of Ukraine, what I would say is that investors confuse objective measure of geopolitical risk with the market's interpretation of it. So let's assume that the objective measure of geopolitical risk is an uppercase G. This measure, you know, which we're theoretically talking about here, can basically stay elevated. But if it no longer moves up, if it's not increasing, if it's just elevated, the lowercase g, which is the geopolitical risk premium associated with assets, is going to collapse because lower case g is a derivative of upper case G.
Now let's apply that to Ukraine. Ukraine conflict happens, catches most investors off guard. Not everyone, but most. The upper case G goes up, there's stock of nuclear exchanges. Right now there's a Ukrainian offensive, there's a mobilization. You could argue that upper case G, the objective measure of geopolitical risk, the actual reality on the ground, the political geopolitical reality, is still elevated. But it hasn't really increased as a risk. Why? Because on March 25th, Russians withdrew from all of northern Ukraine because they have been ineffective.
Investors are starting to realize there's material constraints to Russia in effectively pursuing this war. I think there will also be proof that Ukrainian offensive will be halted due to their own constraints. So the lowercase G, which is the derivative of geopolitical risk, the geopolitical risk premium, that the markets are pricing on assets starts to collapse even if uppercases geo objective measure is flat, but still elevated.
So that's the first thing that I think is important for investors to realize. We're now in this multi-polar world, we're gonna have a lot more wars between, you know, regional powers. This is what political science teaches us in a world with no one or two bullies to kind of keep everyone in line. It's every country for itself. This is a very late 19th century, early 20th century kind of a world. And in this world, investors have to become comfortable with this concept, which is that yes, the war may still be going on, the news may still show refugees and civilian casualty and a lot of bad stuff, but the market desensitizes and doesn't care unless new information somehow meaningfully raises objective geopolitical risk. That's the first thing. The second thing that I think we need to think about in terms of commodities, yes, this is a different war, Tracy. I totally agree with you.
And my biggest fear when the war started was that Russia would play the role of OPEC from 1973. So in the initial phases of the war, I was bullish oil. And then basically by May they refused to curtail their oil exports. So I think that the EU oil embargo, the western oil embargo, is a farce. I think it's a PR effort. And so I faded that from day one, but I was concerned that Russia would actually then abrogate its own oil supply. And by the way, it would kind of make sense. They can probably make money on the price even if they're volume declines. Why not? Why not curtail 2 million barrels? If I was running Russia, if I was advising President Putin, I would've been like, Hey, you know, why don't we just threaten it? Why don't we cut the million here, 2 million there.
Now they haven't done it. And I think that that suggests there are constraints to curtailing your exports that OPEC did not have in 1973. And so I doubt that they're gonna pull that lever going forward. What are those constraints? Well, OPEC wasn't fighting against Israel in the Yom Kippur war. It was Egypt and Syria. So a lot of the OPEC countries, uh, that were on the sidelines, they had surpluses and they have excess revenue and they could curtail export. Russia is prosecuting war that’s very expensive. You know, the United States of America fighting a much simpler war in Iraq in 2003 and 2004 spent like 200 billion dollars in those two wars, more or less, in the first two years. Russia is probably spending more if we associate the economic cost of sanctions. Nobody sanctioned the US in 2003 and 2004, you know, like Russia. This is an expensive war for Russia.
So that's the first issue. That's why I don't think they will curtail their own oil experts. The second issue is that they don't want to anger their own allies like India and China, who I'm sure told President Putin in Uzbekistan, at the recent Shanghai Corporation Organization meeting, like, Hey, you can do whatever you want in Ukraine, but do not curtail oil exports. And the third issue is that I think Russians understand that if they do curtail their oil exports, Saudi Arabia, which has been playing nice with them, will take their market share at that point. I think there's also internal elite issues. You know, I'm not sure that Mr. Igor Sechin, who runs the energy clique in Russia, is cool with leaving money on the table so that Putin can pursue his war in Ukraine. I think there are problems also within the Kremlin on this issue, but the fact of the matter is that Russia has not been willing to curtail globally relevant commodities. Now, Europe is a different question. They've done it to Europe, but that's a sequestered commodity. The Yamal Peninsula natural gas is sequestered in the peninsula, and the only delivery mechanism for that a hundred BCM of natural gas is pipelines to Europe. So it matters for Europe, it doesn't really matter for the world. Oil exports, Russia has refused to curtail and you know, it's September 23rd, they haven't done it for now, what, seven months. I think that tells you they won't do it.
Tracy: (24:44)
You know, you mentioned just how expensive this war has been so far for Putin, and you also mentioned that a lot of people were caught off guard by Russia actually invading Ukraine this year. And I think you, correct me if I'm wrong, but I think you were one of those people who had assigned a relatively low probability to the possibility of a full blown invasion. Could you maybe walk us through like what exactly did people get wrong? Because I think, you know, a lot of the hypothesis seems to have been correct? Like Putin has a lot to lose if Russia actually invades and it's gonna be very expensive and a difficult military conflict and Russia's gonna grow even more isolated. So all of those were right, but they don't seem to actually have inhibited Putin's behavior.
Marko: (25:34)
Yeah, so my framework for forecasting geopolitics focuses on material constraints. I wrote a whole book on that. And you know my message to investors is this isn't a foolproof method. I mean, you're not gonna be a hundred percent right, but it allows you to start with something that is meaningful, objective and measurable.
So instead of trying to like throw darts at the board of policymaker preferences, talking to, you know, consultants who presumably have insights into the inner workings of the mind of people like Putin or Xi, start with something that you as an investor can actually like do yourself, which is look at the material constraints to the policymakers and policymakers will most of the time pursue a path of least resistance, political path of least resistance, like water coming down a hill. That's basically the framework I employ.
Now, occasionally policymakers say, well cool, thanks for that framework, Marko, but I'm gonna pursue my preferences. So I assigned a 50% probability to conflict in Ukraine. I said, I hate doing 50-50, but this is a close call. Maybe Putin does it, maybe he doesn't, but if he does, here's how it's gonna play out. And that part, here's how it's gonna play out, has played out basically exactly as I expected. And one of the reasons that I said that this would be really bad idea for a president Putin is that Russia doesn't have a military that can successfully execute this kind of operation. So, you know, like there's an objective fact, Russia military sucks, like, sorry, but it does. It has no evidence over the last 20 years of being successful. Its intervention in Syria was a very high ROI because they did it smartly. They sent some Sukhois, like 40-year-old airplanes, to help Bashar al-Assad. And that was it. 2008 Georgia, they were attacking a country that like doesn't have any, you know, mechanized armor. So they've been very smart in how they were deploying their military over the last 20 years. Putin has been very risk averse, high geopolitical ROI.
And so the idea that he would invade a country three times the size of Iraq with double the population and with, and with a very hostile view toward Russian invasion, unlike Iraq by the way, where 70% of the population was either Shia or Kurd and was therefore quite welcoming to the initial American invasion. The point was the constraints were massive on Putin. Now obviously in this particular case, the reason I got the decision wrong is because I write investment research on the beach in Santa Monica and President Putin is the president of the Russian Federation, right? So he gets to decide what he does.
But the value in the constraint framework is that as an investor, if you get the initial decision by policymaker wrong, your framework is still useful. You don't have to adjust it, you just say like, Okay, well policymakers ignored it. They're may be unaware of their constraints. They're about to find out what those constraints are. And so the last seven months has been President Putin and Russian leadership becoming intimately aware of the material constraints as they have articulated themselves in objective reality. And it's been a beautiful thing to watch because it shows the benefit of having a framework in thinking about politics. Yeah, you get the initial thing maybe wrong, you know, and it's not like I was yelling and going like long ruble by the way. I mean, I had a hedge on, you know, like my recommendation was go long wheat and gold, you know, I think those would not perform if there's an intervention. Gold was wrong, wheat was kind of right.
But the point is like then when it happens, you have a view of how the reality will develop, given the constraints. Unless you got the constraints wrong, obviously, in which case, you know, like half of Ukraine would not be conquered by Russia if the constraint framework had really failed me. So that's, that's a really interesting lesson I think for myself and for anyone who wants to use a systematic approach to politics and geopolitics. It's not about getting events right, it's about getting the markets right and you can still double down on your view if you get the constraints right. In fact, the the market will become even more stretched and the offer opportunities will be even greater.
Joe: (30:13)
I wanna go back to what a potential stasis looks like. And you mentioned that in your view, a big part of Putin's motivation at this point has been the sort of export of domestic political angst. And that the mobilization, which has got a lot of headlines, is partly out of an impulse to show that something is being accomplished. What does stasis look like or what type of stasis is acceptable from Zelenskiy's point of view? Because of course he's also had rhetoric about not ceding any territory, any ground whatsoever, but obviously some parts of Ukraine are in fact controlled and likely to stay controlled, it would seem, by Russia. What does, what is sort of a acceptable stasis from the Ukrainian perspective?
Marko: (30:59)
Well, we know what the acceptable stasis is from the Russian perspective because they told us on March 25th. On March 25th, the Russian Defense Ministry proclaimed victory, which was of course like a joke because they, you know, they got their butt handed to them in northern Ukraine. They withdrew from Kharkiv and Kiev, more or less... they retained some territories in Kharkiv, which they've now lost.
So they withdrew from those northern parts of Ukraine, they abandoned the assault in Kiev and they basically said, Oh, you're silly Westerners, you guys thought we were trying to get to Kiev. And then they told us that they're not gonna focus on Donbass, which are the oblosts of Luhansk and Donetsk, and then the land bridge to Crimea. So that's it. Like their goals now are not “denazification” of Ukraine, whatever that means.
It's not conquering everything east of the Dnieper River, as many people thought, because they were doing this pincer maneuver, which is idiotic Ukraine's the size of Western Europe. Russia tried to do a pincer over with 200,000 troops. It's like, it's like they never played Risk, you know, like my kids know not to spread your troops out across different countries. You, everybody in my household knows when you get your big reinforcement push, you make one line of attack and you like sweep through it. But apparently, you know, Putin it as general thought that it would be cool for Russian TV if they had, you know, airborne invasion and like they had an amphibious assault and it was all like very much like, it was like a Bruckheimer-produced invasion. It was quite ridiculous. And it will go in, in the annals of history as I think one of the biggest military blunders ever.
But look, the point is, cool, they readjusted what they want and we know what the Russians now want. Now the problem for them politically is Donetsk. If you look at the map of conquer territory, there's still a very large chunk of the oblost of Donestk, not the city, but the oblost of Donetsk that is held by Ukrainians. And I think the only reason President Putin has not raised the mission accomplished banner, the only reason he hasn't done that, is that that is a sore spot in the geography of what they have conquered. That's a delay. You know, and throughout the summer they've failed to, to deal with this like territory. And I don't know if they ever will, uh, they might have to proclaim victory with half of this oblasts, which is an embarrassment by the way. Donetsk is surrounded by Russia, it's populated by ethnic Russians, not majority, but like a good chunk of it.
And so the fact that they've been incapable of winning in the oblost of Donetsk is beyond mind boggling. It's stupendous that Russia can't do this. But going back to your point, Joe, which is important, what does Ukraine want? Well, Ukraine wants a lot. I think that Ukraine wants the recovery of all of its territories including Crimea. But you know, I want rock hard abs and I'm working really hard to get them, but it's not gonna happen. And so constraints are far more important than preferences. And I know it's not politically correct to say this because you know, we're all obviously like this is the West, we all have a pro-Ukrainian bias. But the fact of the matter is that I don't think anyone really cares what President Zelenskiy wants. And I think Zelenskiy would agree with me because he's been asking for main battle tanks for the past seven months.
The Ukrainian offensive has been effective, but it's been effective, note where it's been effective, in the part of Ukraine where Russians have not really stated they want Kharkiv. Kharkiv was logistically important. You know, they've kind of gone back and forth whether that's their goal, it's not part of Donbas. And so that's the part that Ukrainian offensive has been very successful in. But I would argue that's the part that Russians have cared the least about of the four oblosts they've already conquered. And so I think that what's happening is the West has given Ukraine sufficient weapons to defend itself very effectively to pursue a limited defensive. But if the West really wanted Ukraine to secure all of the parts of Ukraine, then two things would happen. They would've been given tanks seven months ago, which Germany has not done. Germany has asked Spain not to give Leopards that Spain has to Ukraine, the US is equivocating on this issue even when it comes to Abrams main battle tanks and second, much bigger help on air force, particularly ground assault aircraft.
So you had some retired generals for example, suggest why don't we give Ukraine A-10 Warthogs? That would make a really big difference. Ukraine doesn't have those two things. So I would argue that what Zelenskiy wants is kind of irrelevant because his constraints are that he doesn't have the military necessary to conquer parts of Ukraine where the Russians are entrenched. And that's by design. That's by design because Europeans ultimately are very concerned about Ukraine and sovereignty, independence. Genuinely, I think European voters and policymakers don't want Ukraine to fall to Russia, but they kind of feel that's been accomplished. Do you think Europeans are gonna be paying these natural gas prices eight months from now because of something called Donestk?
Most Europeans can find Donetsk on a map. So I would argue the answer is an absolute no. And that's what's very relevant for the markets. The idea that the West will retain the current level of support for Ukraine into the future so that Ukraine can mop up some territories that are effectively the West Virginias, and no offense to the Mountaineers, but West Virginias of Ukraine I think is a very naive assumption. That's not gonna happen. Uh, the West is going to basically implicitly create a line of control by not supporting Ukraine enough, and that's been the case for seven months.
Tracy: (36:57)
Can I ask you to apply your framework to Xi Jinping and the Covid Zero policies that China is pursuing? Because I think this has been sort of a question mark over what's going on there. Like why exactly are the Covid restrictions politically beneficial to Xi? I know he made a big point about how China cares about people's lives versus the West, where they're willing to just let people die in order to keep businesses open. So there's that, and there's some argument that maybe it helps, you know, fight capital outflows and things like that. But what exactly is he trying to get here and what are the material constraints that are restricting or maybe even helping him pursue those goals?
Marko: (37:42)
So I think that the political decision was not to accept, you know, Western vaccines. And that was a decision I guess made what in 2020/2021. Once you make that decision, I'm not sure it's illogical to do zero covid policy. So once you have taken perhaps an ideological and a political decision not to import Western vaccines, which are effective, once you've done that, everything that's followed in China, I think you could make a logical, rational explanation for why China's doing that. Its population pyramid is heavily weighted toward the elderly. It doesn't have the hospital beds per capita that it would require to let Covid run through the system. And for some reason it has been unable to get the elderly to take up the booster shots, add up percentages necessary to kind of open up the economy. So once you accept that there was a political decision, an ideological decision, once you accept that, like everything else that's happened makes sense.
And that's not a popular view in the West because now we've become so anti-Chinese in the West, so thoroughly, that everything that happens in China is interpreted as some sort of a Maoist coup. You know? And, and I think as an objective observer, and I bathed myself in aloof indifference to do my job, I can tell you that five years ago everybody thought China was a friend. And now, you know, everybody thinks it's evil. And so zero Covid policy is seen as some sort of a manifestation of a Maoist policy. But again, there may have been an ideological reason not to take Western vaccines. I accept that. But once they've done that, once they have an less effective vaccine, elderly population, not enough hospital beds, and for some bizarre reason they're incapable of getting the elderly in China to just take the third, fourth shots, then zero Covid policy kind of makes sense.
And this is an important point because a lot of onshore managers in China and you know, I have an office in Shanghai, great analyst there, great team, and we give a really good read, when we produce research in China, we have I think a really great read on onshore managers in China and, and they've been really hopeful that after the October Congress there will be a shift in zero Covid. But if you take my view, which is that maybe there is a public health reason to have zero Covid policy, given the initial political ideological decisions made two years ago, then it's not clear to me that those restrictions will be eased as much as many investors think. And I think the onshore sentiment in China is starting to realize this. The shutdown of Chengdu, which is a 20 million people city, recently, couple of weeks ago, has really upset sentiment domestically. And I think that, you know, there won't be an easy fix after October when it comes to this issue.
Tracy: (40:36)
How's your call option on Putin not being around in 12 months going? So I think back in March you spoke to some of our colleagues on the the What Goes Up podcast, and you said something to the effect that you thought that Putin might not be there in another 12 months time. Uh, you still sticking with that one?
Marko: (40:54)
Yeah, so what I said was if I was a bookie, I would set the line at 12 months and I'd be taking the under. And then you know, you guys at Bloomberg, you tweeted it out to, to the world. And I love one comment, by the way, I love Twitter cuz one genius went like, I give Marko Papic 12 months and I'm taking the under, says Russian president Vladimir Putin. You know, and like that was, that was, that was, that was awesome.
So look, what I would say is that, yeah, I think, I mean, I might be cashing in on that option, maybe selling it to some enthusiast right now, but I'm willing to stick with it. I think that Russian history is very clear. Russia is terrible at fighting offensive wars. We in the West, we have a perception per, you know, propagated by the Russians themselves, that there they have a glorious military history.
And look, let's be objectively clear, Russia saved the West in second World War. I think that that has to be said, like that is something that I think Russians can take to the end of time. That in World War IIthey really were like, they fought the biggest battles, you know, fair. Napoleon attacked Russia, it destroyed Napoleon.
But those are situations in which somebody attacks Russia and they have such a huge territory, they can extend the supply lines of their attackers, they can attack them. You know, that's the benefit of Russia. But those benefits are also disadvantages when they pursue offensive action because their own supply lines are so stretched and huge and logistically becomes a nightmare to support offensive operations. And so there have been several major wars in which Russia was an attacker, an aggressor, was an offense, where they spectacularly failed.
And when they spectacularly failed, the immediate reaction was domestic political unrest. So, you know, I assume that President Putin was a student of history. Apparently he's not because what he has done, he's fallen into one of these traps. And I think that, um, when policy makers in Russia or leaders of Russia did that, they always met and sort of on timely end. They were either retired like Khrushchev did when he, you know, tried to test JFK over the Cuba missile crisis or they had to, uh, implement reforms as Alexander the Second had to do after his father failed to win the original Crimean War. Or in 1905 when the Czar had to implement reforms after the 1905 revolution in Russia, which was sparked by the disastrous Japan war, you know, where basically Russia invaded, uh, tried to defeat Japan and lost all three of its fleets.
And then of course, in 1917, which is the best example, Lenin used secret documents and communication that proved that the provisional government, which had overthrown the czar, was still pursuing World War I for imperial gain. And Lenin basically used that as a spark for the eventual Bolshevik revolution. My point is that this repeats in Russia like constantly. I can't really point to a war where Russia was the aggressor and they won. And I think that's important and I think that that's gonna resonate whether I'm right in five months or whether I'm right in two years. We'll see. The other thing that I've also been saying is like, look, uh, the polling in Russia is kind of weird. You know, when Russians are asked if they support President Putin in the Russia military, about 80 to 90% of them say yes. But when they're asked, like, how long do you think this war is gonna last? They say less than a year. You know, we're like, so less than a year.
And when they're asked, do you want the conflict to continue or should the negotiations begin right now? It's split 50-50. And I think that what's going to happen as Russians are disappointed on their own forecast of how long this is gonna last, the percent of Russians who want negotiations to begin is gonna rise. And so domestic politics are a critical constraint to how long this war goes. Now, right now, I think Russians are experiencing a natural reaction to this conflict. Patriotism is high. They're, they've been labeled pariahs. And by the way, not just the policymakers, regular Russians, visa-free travel's gone. You know, you can't leave unless it's to Serbia, Georgia, Turkey, right? So if you're a regular Russian, I'm pretty sure, even a liberal one, you're pretty angry at the West, you're angry at NATO, you're angry at the US. And those feelings are going to help President Putin maintain and prosecute this war for several more months.
But those feelings of patriotism dissipate, they always do. They did in the US when the US invaded Iraq as well. Those feelings of patriotism dissipate as you start doing a balance sheet analysis: Has my life improved and what are the gains or goals of our conflict in, in Ukraine? And right now all I can see is that the goals of Russia and Ukraine are to win the West Virginia of Ukraine again, I refer to West Virginia because, you know, Donbas has coal. Like, that's it. And if you're a Russian in St. Petersburg and Moscow, at some point 6 months from now, you're gonna be like, wait a minute, what? What is this war about? I can't travel. You know, like there's like, I have to buy a car without like antilock braking system. I can't fly Aeroflot planes anymore cuz they're not safe because we don't have replacement parts. I gotta take the Trans-Siberian railway. You know, these are the things that I think Russians are gonna start asking themselves over next six months. And that's why I do think that time is running out for the Kremlin to get out of this very, very dangerous situation.
Tracy: (46:37)
All right, Marko, we're gonna have to leave it there, but thank you so much for coming on Odd Lots. I'm glad we could finally do this conversation and it's been a really interesting discussion. So thank you.
Joe: (46:47)
Yeah, that was great, Marco. Thank you so much. Thank
Marko: (46:49)
You, Tracy. Thank you Joe.
Tracy: (47:03)
Joe, this just proves my point that it's impossible to have a conversation about Russia without someone bringing up World War II.
Joe: (47:09)
And also I just feel like there's so many, I don't know, veteran market people, I just feel like a Venn diagram of veteran investors who sits on their couch has has watched a lot of World War II documentaries. is two circles with a lot of overlap.
Tracy: (47:27)
But it was, I mean, it, it was really nice to get that sort of historical depth from Marko. What I would say is, I thought his point about the war, not necessarily coming to a definitive end, but sort of this stasis idea, that seems realistic.
Joe: (47:43)
I thought that was really interesting too. And it's one of these things that it's like people wanna look for some end, right? Or some victory or some capitulation or some side giving up, white flag or something like that. But I think, you know, look around and he mentioned the Korean War is like an extreme example, but I think if you look around the world, you probably do see a lot of situations in which wars don't really end with a Capital E and they're sort of occasional skirmishes, but they're just some sort of like permanently contested territory or some new territory that one entity doesn't accept, but clearly has some sort of political autonomy. And that does not seem like an implausible direction that this would go.
Tracy: (48:28)
Well. I mean, even if you look at the example of Russia annexing Crimea, what was it, 2014? I mean, that kind of didn't end. There was no definitive, like, end point on that. It just kept going and eventually kind of morphed into the situation that we have today.
Joe: (48:45)
You know, that would, that's interesting too. You mentioned that because I forget, we have had a couple episodes talking about how markets got over that really fast and investors didn't even stop buying sovereign debt or anything of Russia's after that, despite like it's clear like impulse to sort of wage offensive war. And so to Marko's point, whether it's, it may be uncomfortable for us, but markets can be pretty quick about forgetting the past.
Tracy: (49:16)
Yeah. That, that was the episode with one of my favorites Mitu Gulati. But it's true, right? You had this act of aggression from a country that, you know, traditionally by the west has not been seen as, as a friendly ally at all. And the most that happened was people put in, you know, some. some language into their bond documents saying like, it's possible that Russia invades another country again. They've done it before. And then life just continued and the government kept tapping the bond market with relatively like little penalty.
Joe: (49:48)
Yeah. And you know, I just, just in general, you mentioned history and you started, we started with the World War II conversation and as Marko pointed out, you know, theorists of war and geopolitics often like to come up with like grand, you know, sort of psychological or psycho-historical explanations for impulses. Like how crucial Ukraine is in some sort of Russian self-identification of what its true nation should be or something like that. It's not to say that those are illegitimate or that Putin himself might not have some of those same impulses, but those are really hard to, like, grasp. Whereas certain sort of, as he puts it, the materialist approach “Is Russia capable of launching a robust offensive war with stretched supply lines.” Like these are probably good places to start in one's analysis, like things that are a bit more concrete and material.
Tracy: (50:40)
Yeah, I think that makes sense. All right. Uh, well we could talk about this for a long time, but shall we leave it there?
Joe: (50:47)
Let's leave it there.
Follow Marko Papic on Twitter at @geo_papic