Page 49 - IFR Opportunities in Russian capital markets

CHAPTER03
ifrintelligence reports/Opportunities in: Russian Capital Markets
In the second phase, the fall of the RTS was tipped into steeper decline by the Asian crisis, which span out of control because of the sorry state of the domestic economy, despite the improving domestic political situation.
In the third phase, the recovery of the RTS was driven by the rapidly improving economy, but knocked back by the decaying political situation and the rise of the hardliners in the Kremlin, the so-called Siloviki, or ‘men of power’ connected to the security services.
As the Russian stock market moves into its fourth phase, which started with the sell-off on 12 May 2006, economists agree that there are very few problems with the domestic economy. Although there is significant political risk associated with the March 2008 presidential elections, when Putin is due to step down, the main dangers to the continued growth of the Russian stock market are entirely external. Here the main difference is that while the Asian crisis of 1997 was enough to knock the Russian market off its feet, it is clear that a China crisis, or some other external problem, will not be able to do as much damage to the now robust Russian economy.
RTS performance under Putin
Having started with an index value of 100 in September 1995 and a market capitalisation of a few hundred million dollars, the Russian stock market has really only come into its own under Putin.
The total value of all traded Russian companies broke through the US$1trn barrier on 30 November 2006, as the RTS index soared from an all-time low of 38 in October 1999 to a new all- time high of 1,921.9 on the last day of trading in 2006.
Even this astronomical gain in value leaves the stocks on the Russian exchanges at a 20% discount to their global emerging market peers, say analysts.
"Russian equities have not had a single 'down' year since the beginning of the millennium, with 2006 being the sixth consecutive year of positive returns for the key Russian indices (although 2004 was almost pushed into negative territory by the Yukos affair). Moreover, it became the fourth year out of six with returns in excess of 50%", said Deutsche Bank UFG in its 2007 strategy report.
The arrest of senior executives of oil major Yukos in 2003 and 2004 and the eventual bankruptcy of the company – the so-called ‘Yukos affair’ – badly shook investors' confidence in Russia and caused big sell-offs on the market.
Investor confidence eventually recovered, as the Kremlin continued to roll out a series of investor- friendly measures such as dropping the ring-fence around Gazprom at the start of 2006 then selling off a big chunk of state-owned oil major Rosneft. In addition, reforms to the market infra- structure continue undeterred.
But more than anything it has been the returns to be earned from the RTS that has been the strongest argument. Investments into Russian equities saw a 250% return between the market lows at the depths of the Yukos crisis in July 2004 and the end of 2006.
RTS composition
Natural resources companies dominate the make-up of the RTS index and rising values have increased their share of the weighting. However, it appears that the blue chips may have peaked and are starting to give way to the rising share of state-owned companies as well as a groundswell of small companies, as a tide of IPOs starts to break in Russia (see IPO section below).
The dominance of blue chips
The make-up of the RTS reflects the youth of the market, Russia's natural resource wealth and the gains that valuations have made in recent years.
Oil, gas and metals company shares dominate total RTS market capitalisation and the importance of oil has only increased in the last few years as the value of a barrel of oil has gone from US$25 to over US$70. Oil and metal companies were always the most valuable on the market, but in recent years their valuation has climbed to the point where they swamp the index changes (see Table 3.1).
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