The Russian stock market has had a good decade. So what's next?
With investors in headless chicken mode, even contemplating putting money into Russia might seem like jumping out of the frying pan and into hot borscht. Russia is the Wild West of emerging markets, after all.
Then again, with some commentators talking seriously about countries exiting the Euro in the wake of Greece's wobbles, as well as fretting about UK and US debt, and fiscal tightening in China, few countries look like entirely safe right now.
Indeed, when you consider some of the dubious practices that have rocked Western markets since 2007 -- from toxic mortgages to Bernie Madoff -- our capital markets hardly look purer than freshly fallen Siberian snow.
Not to mention the oligarch-like riches of our bonus-bloated bankers! Who needs Moscow when you've got Wall Street?
Now that's what I call a recession
Taking my tongue out of my cheek, Russia is risky, no mistake. It's volatile, too, both in terms of investor sentiment, and the underlying economy.
2009 was a shocker. The country was felled by the late 2008 credit crisis -- the rouble plunged and the debt markets shut down. Add in a falling oil price -- crucial to the Russian economy and its stock market -- and perhaps it's no wonder that a country for whom economic missteps are a way of life simply closed shop. Russian GDP fell by some 9% in 2009 -- a worst performance than Germany, Japan, or even the UK!
Yet as elsewhere, the low point is long past. The Russian government spent hundreds of billions of dollars of its substantial foreign reserves stabilizing the financial system, and this, combined with the rebounding oil price, saw the economy splutter back to life well before Christmas.
Analysts at BoA Merrill Lynch are predicting GDP growth of 3.9% for 2010 -- substantially ahead of the developed economies, though lagging its BRIC peers.
Uninflated expectations
A strengthening domestic economy coupled with an oil-hungrier one abroad is great news for Russian investors, given how Russia's RTS index moves in step with the oil price. But what's really exciting Russia bulls is the prospect of falling rates.
For the first time in a generation, inflation is in single digit territory -- around 6%, having been 13% in 2008. Lower inflation means the authorities can cut rates, even as the rest of the world tightens. That's almost guaranteed to be good news for Russian equities.
Kingsmill Bond of Russian investment bank Troika Dialog has also drawn attention to the country's low indebtedness, claiming that both Government and private debt are under 10% of GDP, and citing a McKinsey study putting total debt in Russia at 71%, a quarter of that in developed markets.
Oil, oil, everywhere
Then there are Russia's perennially attractive natural resources. Russia remains the world's biggest country, spanning 11 time zones and with something worth digging up under most of them -- from copper, palladium, nickel, and iron ore to the world's largest reserves of natural gas and the eighth largest of oil.
Having China on its doorstep is a plus; Russian infrastructure is increasingly focussed on its Eastern borders, where the world's largest consumer of resources looks likely to raid Russia's larder for decades to come.
Russia has another untapped reserve -- an expanding middle class. According to Troika Dialog, only 20% of Russians have cars, while mortgages amount to just 3% of GDP. This is a potentially massive market for companies able to do business in Russia.
And there's that rub -- Russia is undoubtedly a 'hold your nose' investment. Local corruption is a big issue, while on the national stage the authorities have, by Western standards, all but appropriated private assets for state-controlled firms.
From a Russian citizen's perspective, however, the Kremlin has simply been undoing crooked deals made in the 1990s. It's notable that Western companies like Royal Dutch Shell (LSE: RDSB) are still operating in the country, despite all the bad headlines, which suggests a degree of posturing and realpolitik on both sides.
If you invest in China, you can hardly be snooty about Russia. Indeed, as I see it Russia has tried and rejected the Western model of capitalism, and it's now looking to China's State-run model. Not my cup of tea or yours, perhaps, but it's hard to argue with the results for countries playing catch-up.
How to invest in Russia
At last night's close the RTS index stood at 1,445, on a forward P/E of between 8 and 10 depending on who's estimate you consider realistic.
That's cheap enough to make Russia the most attractive of the world's emerging markets according to Goldman Sachs, which is forecasting 4.5% GDP growth and a 60% leg-up in earnings in 2010. Recent wobbles will prove a 'temporary correction', it says.
If you agree, your best bet is the JP Morgan Russian Securities Investment Trust (LSE: JRS). Priced at 477p, it's up over 190% in the past year with the Russian recovery. It's on a discount of around 12% to NAV and pays no dividend. Annual fees are 1.5% of assets.
For a passive alternative, consider the iShares Eastern Europe 10/40 ETF (LSE: IEER). This invests Poland, Hungary, and the Czech Republic as well as Russia, but the latter gets most exposure. The expense ratio is 0.74%, and the ETF yields 1%. It's up 125% in a year.
There's no doubt Russia is a risky place to put your money, and it will be hit if the volatility in the markets persists. But for a small portion of your portfolio, the current disruption could offer an attractive entry point into a high risk/reward investment.
JP Morgan Russian Securities was the best performing investment trust of the noughties -- up an incredible 976%, despite all those bad headlines. Who's to say it won't do well again.
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