Russia: a cheap bet for contrarians

Investors in emerging markets who ignore Russia are missing a trick. Max King explains why.

17-1-5-Moscow-1200

Russia: an exciting market for 2017

This content is subject to copyright.

Asia dominates the emerging-market indices, with the result that other regions tend to be ignored by investors. This tendency is compounded by the negative stereotypical views that are attached to Latin America, Africa and eastern Europe. For the contrarian investor, happy to go against popular sentiment provided that fundamental factors are on his or her side, these markets currently have a strong attraction and none more so than Russia.

Even after returning 30% in rouble terms last year (and more than 50% in dollar terms), the Russian market trades at a multiple of only 7.5 times current-year earnings. Meanwhile, the macroeconomic outlook is improving, helped by the recovery in the oil price to $55 a barrel, says Alexander Branis, chief investment adviser to Prosperity Capital, which specialises in investment in Russia and neighbouring countries. He expects oil to reach $70 and the rouble to appreciate from 64 to 55 to the dollar.

The corporate sector, he says, is in a strong position with most companies not indebted and having strong cash flow. Improvement is most marked in the state-controlled sector, whose companies are required to raise payout ratios to 50% of earnings. As a result, the market yields 4% on 2016 payouts and over 7% for 2017. Branis also believes that every crisis that Russia has experienced has enabled the better-managed companies to strengthen their market position.

On this basis, Prosperity favours airline Aeroflot, whose chief domestic rival has gone out of business; Tinkoff, the consumer bank that is gaining market share but has no ATMs or physical branches; and X5, Russia's second-largest food retailer, which is seeing strong growth and enjoys rising profit margins.

Unfortunately, Prosperity funds are not available to investors with less than $1m to spare. One alternative is JP Morgan Russian Securities (LSE: JRS), an investment trust trading at a 13% discount to net asset value (NAV). However, a broader option is Baring Emerging Europe Trust (LSE: BEE), which also trades on a 13% discount to NAV, despite returning more than 55% (in terms of NAV growth) over the past year. This trust's wider geographic exposure captures some good opportunities elsewhere in the region. Almost 60% of its portfolio is invested in Russia, but 19% is in Turkey and 14% in Poland.

Diversifying out of Russia into Turkey may seem like "out of the frying pan, into the fire", but manager Matthias Siller believes pessimism about Turkey is overdone. "Relations with Russia have improved, tourism has picked up and the war in Syria is nearing a resolution," he notes. "There are signs that the Turkish lira is finding support helped by a rise in interest rates which should pave the way for a better equity market."

The non-Russian investments dilute the trust's exposure to the resources sector, which accounts for over 50% of the Russian market, but this sector still makes up 30% of the portfolio. While the dependence of the Russian economy and of its government's finances on resources is being steadily reduced, a renewed slump in resource prices would still be damaging to the economy, the rouble and financial markets. Hence those who are bearish on resources should stay away. For other investors, any setback to emerging markets should be a good long-term buying opportunity.

Recommended

UK inflation slides to 8.7% - what does it mean for your money?
Economy

UK inflation slides to 8.7% - what does it mean for your money?

Inflation has dropped below 10% for the first time in months, but with food prices at a 45-year high, is this good news and what does it mean for your…
24 May 2023
£1.7bn sitting in unclaimed Child Trust Funds – here’s how to get the money back
Personal finance

£1.7bn sitting in unclaimed Child Trust Funds – here’s how to get the money back

Millions of pounds are sitting in languishing child trust funds. We look at how to track them down and how to make the most of your child’s savings.
22 May 2023
It’s fallen hard – but is now the time to buy Scottish Mortgage Investment Trust?
Investment trusts

It’s fallen hard – but is now the time to buy Scottish Mortgage Investment Trust?

Shares in the Scottish Mortgage Investment Trust have plunged 45% since the beginning of 2022. We take a look at the trust's performance and discuss w…
22 May 2023
Why the UK equity market is shrinking
Economy

Why the UK equity market is shrinking

The crisis has been building for 25 years, says Max King, and it will take decades to reverse the trend.
18 May 2023

Most Popular

Nationwide to give £100 cash boost to customers
Personal finance

Nationwide to give £100 cash boost to customers

Nationwide Building Society is giving customers £100 as it reinvests profits. Dubbed the Nationwide Fairer Share scheme, we look at who is eligible.
22 May 2023
Share tips of the week – 26 May
Investments

Share tips of the week – 26 May

MoneyWeek’s comprehensive guide to the best of this week’s share tips from the rest of the UK's financial pages.
25 May 2023
Holiday rip-off: Millions of travellers hit with hidden costs by using debit card abroad
Personal finance

Holiday rip-off: Millions of travellers hit with hidden costs by using debit card abroad

A family of four on a week-long trip to France could pay an extra £212 in fees by using their everyday bank card compared to the lowest-cost option, a…
23 May 2023