Back in March, Russia’s authorisation of its armed forces
to be used in Ukraine brought about widespread condemnation, particularly
from the EU1 and the US2.
Before the Crimean crisis broke out, Russia had become
popular with emerging markets investors: one of the BRIC countries with
Brazil, India and China. For example, by December 2013, US financial
institutions had put over USD 37 bn into the country, which, according to
eVestment, was almost double the amount of just three years previously.3
Investors walk away
Then, Russia swiftly annexed Crimea following political unrest in
Ukraine. International investors reduced exposure to the Russian stock
market driving the MSCI Russia Index to a low of -25% in mid-March.4 At the
end of March, the stock exchange’s market cap was around USD 430 bn - less
than that of Apple alone.5
Shockwaves of the crisis were also felt in Eastern Europe as a whole:
outflows of USD 2.4 bn in 2013 were followed by withdrawals of USD 1 bn
between the beginning of January and end of March this year. Added to that,
dozens of other broader emerging markets funds with exposure to Russian
stocks also experienced redemptions.6
After a brief recovery, the news that OSCE observers were seized in the
Ukraine and the US imposed sanctions on Russian President Vladimir Putin’s
inner circle, was followed by another significant drop in the stock market
in late April.
A bad risk for some, an opportunity for others
Yet, like a good magic trick, a political crisis can deflect
focus from the seemingly obvious. With international investors walking away,
prices in Russian equities reduced sharply. Of course, no-one could really
predict the economic effects of the situation in Crimea and Eastern Ukraine.
However, those with a long-term approach to investment recognised a good
opportunity to invest in Russia, holding the belief that the crisis would
not last forever and values would at some point rise again. I suggested this
on CNBC in the early days of the crisis7.
Political stability
By summer 2014, the political sabre-rattling had calmed
down somewhat and the pro-Russia militia’s occupation of Eastern Ukraine had
ended. Meanwhile, stock prices and the USD-rouble rate had both gone back up
to their pre-crisis levels.
These indicators show that those with a longer-term attitude towards Russia
and bought in while the markets were cheaper may have got themselves a
bargain. After all, there is far more to a country’s economy than its
politics, as any investor in Thailand or Italy would confirm.
Russia is the largest country in the world and has significant resources. In
May of this year the government signed a 30-year USD 400 bn gas-export
contract with China8. Added to that, President Putin recently approved a
government stimulus package which includes: simplifying procedures for
granting state guarantees; tax exemptions for new companies; increased
spending on infrastructure; plans to promote industry and agriculture; and
amendments to improve deductibility of taxes and fees.
Analysis of the fundamentals is key
Although the political situation was still uncertain when
Standard & Poor’s published its last ratings report on Russia at the end of
March,9 it expected that the rouble would stabilize at March levels and that
capital outflows would slow to a modest pace. This seems to be the case, as
the Russian central bank announced in late May that it estimated capital
outflows would be between USD 85 bn and USD 90 bn; which is much better than
the foreign minister’s fears that USD 160 bn would leave the country in
2014.10
Looking at the stock market patterns over the last three
years, the Ukraine crisis seems to have taken a similar shape to that of
three other confidence dips since 2011, which have all resulted in
stabilisation around previous rates.
The US dollar-rouble rate shows a strengthening of the rouble; however, it
is still much weaker than rates at the turn of the year. That said, the
Russian currency had been weakening against the dollar since February 2013,
from 30 to over 36 RUB : 1 USD in mid-March 2014. Thus, the Ukraine
situation merely exaggerated a trend that was already present.
Taking all the above into consideration, it is apparent that certain
countries experiencing a political crisis can actually represent good value
in the medium-to-long term. When considering investment, a mere glimpse of a
news bulletin is of course not enough. Instead, independent analysis from a
variety of sources covering the short, medium and long term is far more
helpful. After all, whatever may be happening on our television screens, the
economic fundamentals are still in place, the country could well bounce back
in a matter of months.
Footnotes:
1
http://consilium.europa.eu/homepage/showfocus?focusName=ukraine-eu-condemns-russias-actions%2C-calls-for-de-escalation-and-remains-ready-for-further-measures&lang=en
2
http://www.reuters.com/article/2014/03/02/us-ukraine-crisis-usa-kerry-idUSBREA210DG20140302
3 http://fortune.com/2014/03/31/time-to-invest-in-russia/
4 http://www.fmgfunds.com/index.php/contact-en/337-russian-highlights
5 http://fortune.com/2014/03/31/time-to-invest-in-russia/
6
http://www.ft.com/intl/cms/s/0/9e3e6dd2-b4df-11e3-9166-00144feabdc0.html#axzz37ACwwOHU
7 http://video.cnbc.com/gallery/?video=3000249455
8
http://www.fmgfunds.com/index.php/component/content/article/3-news-en/337-russian-highlights
9 http://www.standardandpoors.com/spf/upload/Events_US/4214_art3.pdf
10
http://www.telegraph.co.uk/finance/economics/10851844/Russias-central-bank-chief-deems-crisis-over-as-capital-flight-is-halted.html
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