Russia stands ready to profit from the soaring cost of fuel.
First Tunisia, then Egypt, and now Libya -- this year's turmoil in the Middle East has repeatedly spooked the markets.
The big worry is the oil supply, and the impact of higher prices on global growth. With the price of a barrel of Brent rolling between $110 and $120 -- and wild talk that it could reach $200 should Saudi Arabia prove vulnerable to the unrest -- it's perhaps not surprising that some traders have taken fright.
The irony is that higher oil prices linked to political instability in the region may not even benefit stock markets in this area famed for its huge oil reserves.
Saudi Arabia's stock market, for instance, has plunged back to April 2009 levels. The Egyptian market fell 17% before closing on 27 January, and despite several false starts it remains shut. And Libya, which is a significant oil producer in its own right, is now in the throes of a civil war.
While Libya is not a territory on many traditional investors' radars, Western-listed companies like BP (LSE: BP) had previously been stepping up their operations in the country, leading to further knock-on effects in our own markets.
Crude economics
Now, selling on every sign of a potential stock market decline will soon bleed away your returns and may drive you out of share investing altogether.
But equally, it's easy to understand why investors might hesitate before committing fresh funds in the current environment. Despite the fears, the FTSE 100 is still only a couple of percent off its post-crash peak -- even as economists warn that $120 oil could be enough to derail the global economy.
It's like climbing a wall of worry just inches ahead of a rising tide of the black stuff -- and nobody wants to slip! Yet there is one market that you might consider an each-way bet on Middle East uncertainty and the oil price, if you can stomach it.
Yes, we're talking about Russia. As Matthias Siller, Investment Manager at Baring Asset Manager explains:
"There is generally a close relationship between the performance of the Russian equity market and the oil price, with Russia lagging slightly. In a stronger oil price environment, it is our belief that the Russian market will gain upward momentum."
The following graph shows the relationship between the oil price and the Russian market very clearly:
Source: Baring Asset Management / Datastream, as at 24 Feb 2011
You can clearly see that going on this prior trend, the Russian market could be about to shoot upwards. It's already started 2011 with a bang in comparison with most other emerging markets, which have wilted.
More reasons to buy Russia
We're not habitual graph followers at the Fool. But there are very strong reasons why Russia rises when the oil price does -- principally, that the country is a huge exporter of oil, and its markets are stuffed to overflowing with oil producers.
In the short term at least, higher oil prices will massively boost their profitability. It's estimated that a $150 barrel of oil would increase Russian oil firm's operating profitability by an average of 60-80%.
But Baring's Matthias Siller points to two other reasons to be optimistic about Russian equities in this climate:
- More taxes for the government: It's an election year in Russia, and incumbents flush with oil-fuelled tax receipts could well increase infrastructural and social security spending, to the benefit of banks, construction firms, property companies, and retailers.
- A boost to oil production: Russian oil companies badly need to upgrade their facilities to get more of their reserves to market. A higher oil price would give the Russian authorities leeway to introduce better tax incentives to encourage this, which could enable Russia's producers to increase their output and profits.
The Russian market is on a P/E of just 10 and forecast to fall to around 7, so on the face of it this is pretty compelling opportunity.
Don't all Russian at once
However there's always a big but when it comes to Russia, and that's its attitude towards investors' rights and indeed the rule of law.
Many professional money managers won't touch the country with a barge pole. Some flatly don't trust its politicians or its regulators, and point to the murky previous treatment of companies such as Royal Dutch Shell (LSE: RDSB) and BP, as well as domestic Russian firms that fell out of favour.
Others believe that while Russia's resource companies may indeed do well, the economy is effectively broken, so money won't flow through to rising living standards and growing disposable income for consumers. In other words, they don't buy the argument that Russia is getting richer.
You'll have to make your own mind up. At least it's easy enough to buy into the Russian story via a country specific ETF or a regional investment trust. And if the oil price does continue to rise, you might be glad you held your nose and did so.
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