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IMF, Strategists Warn Over Europe's Risk to Stocks

NEW YORK (TheStreet) -- Central, eastern and southeastern Europe face "unusual constellation of risks" the International Monetary Fund has said, while strategists caution over investor complacency.

The warning came as tensions in Ukraine rattle global markets and investor sentiment, even as growth slowly recovers across the eurozone. The region -- excluding Russia and Turkey -- is projected to grow 2.3% in 2014, almost twice last year's pace.

"Geopolitical tensions surrounding Russia and Ukraine, challenging global financial conditions as monetary policy in advanced economies normalizes, and the possibility of protracted weak growth in the euro area could take a toll on the region's growth prospects," the IMF noted in its spring Regional Economic Issues report, which was issued Tuesday..

BlackRock's global chief investment strategist, Russ Koesterich, said global stocks were vulnerable if the situation in Ukraine deteriorated, suggesting low volatility showed investors were overly complacent.

"If the violence (in Ukraine) continues to escalate and economic sanctions become more stringent, we are likely to see higher stock market volatility and increased selling," he told clients.

Julian Jessop, Capital Economic global chief economist, agreed, saying markets with the greatest economic and financial exposure to Russia would see sharper falls. Therefore, Germany's DAX would fall further than the FTSE in the U.K., for example.

"But Japan's Nikkei might also underperform due to renewed yen strength," he added. The economist said traditional safe-havens such as high-grade government bonds, gold and the yen would benefit. "We would expect any support to oil prices to be short-lived," he said. "Over the longer term, the crisis may accelerate the development of alternative energy supplies for Europe, including shale and imports from the U.S."

Russia supplies about 40% of Europe's gas and a third of its oil, with an even higher proportion supplied to central and southeastern Europe.

This month, the IMF cut its 2014 Russian growth estimates to 1.3% down from an initial forecast of around 3%. Ratings agency Standard & Poor's cut Russia's foreign currency ratings last Friday to one notch above junk status, warning further downgrades were possible if tighter sanctions were imposed. This week, the United States and E.U. slapped more sanctions on several Russian individuals and companies.

Despite this, few strategists expected the downgrade to have a major long-term negative impact on emerging market equities.

"The current events are very much Russia-specific and the direct spillover to other emerging markets should be limited," UBS strategist Geoff Dennis said. "The major risk is that these Russian events put vulnerable emerging market currencies under pressure again, so continuing the reversal of the significant foreign exchange (and market) gains during the mid-March to mid-April rally."

-- By Jane Searle in New York

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