It’s heartbreaking to see the crisis that Ukrainians are facing as a result of Russia’s reprehensible invasion of their country. The sanctions imposed by the United States and other countries may inflict enough financial pain on Russia to eventually bring its leaders to the bargaining table to end the war.
Meanwhile, the sanctions are producing lesser-known consequences that Russia wants to exploit. One consequence is the greater acceptance of cryptocurrencies, which Russia hopes will undermine the U.S. dollar.
The Sanctions and How They Are Working
On the face of it, sanctions should bring Russia to its knees, and fast. Claiming the world’s largest land mass, Russia is a small economy — smaller than Brazil, smaller than Texas. But its key position as a top energy supplier makes the country more important than its size implies.
Europe depends on Russia for natural gas; Russia depends on Europe for hard currency. Coordinated sanctions sent shockwaves throughout Russia, its citizens and even its elite. If massive financial pain is the goal, it worked immediately and splendidly: The ruble has collapsed, resulting in overnight massive price shocks, shortages and expectations that the economy can collapse by a third or more in the next quarter.
The real game-changer that almost no one saw coming was the freezing of Russia’s central bank reserves. The United States cut off all U.S. transactions with the Russian central bank, eliminating its access to more than $600 billion it holds in Western institutions.
How Crypto is Weakening Global Sanctions
There has been a major consequence, intended or not, of freezing Russian central bank reserves. Every central bank and government in the world is now on notice that if they don’t play nice in the sandbox, their reserves and assets in foreign banks can be seized.
“Every central bank and government in the world is now on notice that if they don’t play nice in the sandbox, their reserves and assets in foreign banks can be seized.”
The boomerang consequences for the U.S. and the rest of the world are also coming hard. They include the beginning of the end of dollar dominance, the launch of a new Gold Rush and a tipping point for the acceptance and use of cryptocurrencies.
The Beginning of the End of U.S. Dollar Dominance
The new global sanctions imposed on the Russian central bank put every central bank in the world on notice that its assets can be seized, a crushing action. Witness the impact on the Russian economy. It has been crippled by this new kind of economic sanction. Central bankers the world over would be fools not to see their vulnerability.
The path away from dollar dependence began years ago and may now blast off. In May 2018, Russia accelerated cutting its ties to dollars by dumping U.S. Treasuries, going from over $100 billion in holdings to about $2.5 billion in a matter of weeks (Source: U.S. Treasury). A Congressional paper published in summer 2021 (Source: Congressional Research Service) highlighted efforts China has made to “de-dollarize” for more than a decade. Considering the dealings over the past 10 days, President Xi is likely to accelerate those plans. Many countries will seek to avoid the need to convert into U.S. dollars for transactions.
We have never been “gold-bugs,” but we cannot deny the increase in demand for gold that is a result of the financial chaos.
As part of the bigger plan to expand its role in the world, the Russian central banks began hoarding gold to supplement hard currency. In June 2018, Russia doubled its gold-mining production and is the third-largest gold miner after China and Australia.
Locked out of currency markets, Russia and its citizens are snapping up bullion. The financial upheaval internationally is prompting a flight to safety. This is creating a clamor for the yellow metal.
The Tipping Point for Cryptocurrencies
Digital currencies are now far more intriguing, safe, profitable and in demand for governments and global citizens than they were even a few weeks ago. This trend that began years ago, but has suddenly reached a tipping point.
The People’s Bank of China began developing a digital currency and domestic payment system over the past several years as part of its program to de-dollarize and protect against possible sanctions. Vladimir Putin has regularly criticized the West for dollar dominance. Last October, the Russian leader publicly stated that cryptocurrencies could be “weaponized” as a dollar replacement.
In what should have been a loud signal to the U.S. and the rest of the world, in early February the Russian government posted a document setting out the principles to regulate cryptocurrencies in Russia. Legalizing and regulating crypto communicated to anyone paying attention that Russia was anticipating the impact of any exclusion from SWIFT to sidestep potential sanctions. Why? Blockchain networks and currencies allow for borderless transactions, eliminating intermediaries like SWIFT. Who needs the U.S. dollar in this world?
Kenneth C. Griffin, CEO of Citadel, a multinational hedge fund, called crypto a “jihadist call” against the dollar. That was in October 2021. Prescient. But in March of this year, he softened his position.
How To Invest in This Environment
For advisors and their clients, the loudest investment theme is to gain exposure to cryptocurrencies. The long-term opportunity is clear, but the shorter-term volatility can create challenges for client portfolios. We recommend a 5% to 10% exposure funded in equal parts with Bitcoin and Ethereum. Accounts can be created on eToro or Coinbase and invested easily. For the first time, we also recommend gold: coins or bars. Again, the challenge with an alternative investment like gold comes from storage issues, transactions costs and liquidity.
Another short-term opportunity is presenting itself. In a counter-trend to the long-term falling dollar scenario we have outlined, the rush to safety is flattening the yield curve as global investors rush into long-duration U.S. Treasuries. We recommend purchase of an iShares 20+Year Treasury Bond ETF (Ticker: TLT) above $142 as an established uptrend for profitable opportunity.
Terri Spath, CFA, CFP, has stewarded billions of dollars in client assets. In 2021, she founded Zuma Wealth, an independent financial services firm dedicated to assisting and empowering clients with purposeful, data-driven investment advice and end-to-end portfolio management.