Buy Bank of Georgia: a cheap play on a robust economy

Investing in any bank’s shares may seem a contrarian proposition at the moment. Investing in a bank in a country that has been invaded by Russia might then seem on the hazardous side of contrarian.

Yet the Russian invasion of Georgia happened in 2008 and that means further military conflict is unlikely. Therein lies the opportunity.

Vladimir Putin’s invasion in 2008 in support of South Ossetia (a Russia-friendly breakaway province) was a brief and one-sided escapade. Sadly it may even have encouraged the Russian tyrant to think that an invasion of Ukraine would be similar.

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A solid economy

Following the invasion, Georgia is now less reliant on Russia both as an export market (14% of exports) and as a source of remittance flows from Georgians working abroad who send money back home (now 12%, down from half ten years ago). The rich volcanic Georgian soil means that the country is less exposed to rising wheat prices or a shortage in fertiliser than many. Georgia is also less vulnerable to higher energy costs than in the past, after a decade of investment in hydro power dams.

These made up 70% of energy production last year. In short, the difficult recent history since the fall of the Soviet Union has been a catalyst for the country to become more resilient.

The economy has been strong, with real GDP growth of 5% per year for the three years preceding the pandemic. Growth is forecast to be 3% in 2022, assuming the conflict in Ukraine is resolved in a few months’ time, according to Galt & Taggart (G&T), Bank of Georgia’s brokerage business (named after the characters in Ayn Rand’s Atlas Shrugged).

Even in the worst-case scenario of a prolonged conflict in Ukraine and sanctions applied to Russia’s oil and gas exports, G&T predict a 1% contraction in the economy.

This may be too pessimistic, since Georgia is a relatively stable destination in the region. I’ve heard stories of flights to Tbilisi from Moscow and St. Petersburg being booked out as skilled Russians flee Putin’s regime.

Managing the risks well

London-listed Bank of Georgia (LSE: BGEO) is one of two leading local banks. It’s cheap and in fine shape (see below), although obviously not risk-free. Around 60% of the bank’s balance sheet (both loans and deposits) is in US dollars or other foreign currencies. This would be an issue if the currency devalues steeply: borrowers who earn in local currency could struggle to service their dollar debts.

Some of this risk is reduced by the 1.3 million Georgians who earn overseas in foreign currencies and send money home. In 2021, remittances were up by 25% year-on-year, and by 36%from 2019.

The central bank, which has been increasing its $4bn in foreign-currency reserves, is aware of the devaluation risk and requires banks to have higher capital weightings for foreign-currency loans. It has also set the maximum term of a foreign-currency mortgage to ten years, as a further incentive to encourage borrowing in lari, the local currency. Thus lower interest costs on foreign-currency mortgages are offset by higher principal repayments.

Sulkhan Gvalia, finance director of the Bank of Georgia, who used to be head of risk management, has just bought £200,000-worth of shares at around £12. I met him when I listed the bank on the London Stock Exchange a decade ago, and he struck me as a shrewd character with a common-sense approach to risk management that larger, supposedly more sophisticated, banks in the US and Europe could have benefited from.

While the share price fell steeply during the financial crisis and Russian invasion, the bank didn’t need a large rescue rights issue or rely on a government bailout. I own the shares and think that there is plenty of upside to compensate for the perceived risks.