Medium Term Outlook For The Russian Stock Market

By Maxim Achkasov

Russian RTS Index broke a key support level of 1000 on Nov 7, 2014 and  moved lower trading on Dec 5  at 918 level as I type. In the next few weeks we see the following factors, which will influence the performance of Russian equities.

NEGATIVE FACTORS

• Continued Geopolitical crisis in Ukraine
• Continued Funds outflows
• Negative Sentiment towards Russia at historically high level ( abnormal pessimism)
• Decelerating Russian Economy
• Collapsing Oil price and Oil price to stay lower in general.
• USD is at the beginning of multiyear bull trend, which will put a cap on commodities performance
• Global Economic slowdown ( Japan dipped in recession in 3Q 2014 with – 0.5% GDP growth; Chinese economy will decelerate by 1 % per year in the course of the next 3-5 years – this will put pressure on commodities prices; we assign very high probability of EU entering a recession in 2015)

POSITIVE FACTORS

• Continued excessive global liquidity as a result of Central Bank Stimulus ( Japanese QE, Potential EU QE in 1Q 2015; Beginning of Chinese Monetary Policy Easing)
• Valuation of Russian Equities.

Based on this factors we developed the following probabilities for the Russian Equities Market ( RTS Index):

50 % PROBABILITY: RTS Index will go through  900 level
30 % PROBABILITY: RTS Index will go through  850 level
20 % PROBABILITY: RTS Index will go through  825 level

OUR VIEW:

We have the following assumptions for the 1H 2015:

• We assign 75 % probability of deceleration of Geopolitical Russia/US/Ukraine/EU crisis in 1H 2015 and 25 % in 2H 2015.
• We assign 75 % probability of coordinated OPEC action to decrease output in 1H 2015, which will support  Oil/Ruble/Russian Economy
• At the same time we assign VERY HIGH PROBABILITY ( 50 -75 %) on the turbulence in Global Equities markets in the next 3-4 months ( Dec 2014 – March 2015), with 75 % probability of US Market correction between 10-20 %, this will cap any pullbacks/positive performance of global markets, incl Russian market.
• There is a BIG misconception on the RUB/Oil and Oil/Russian Economy sensitivity, which will be debated in the next weeks/months. We stick to our view that so far RUB weakness more than offset oil price weakness, providing the oil companies with a hedge against  falling oil prices. As per Rosneft $10/bbl move in Brent  is fully offset by 2 RUB move to USD. Using that guidance as a rule of thumb (oil down $5/bbl, RUB down 2 points vs USD) we conclude that Russian oils’ economics are not negatively impacted. (Additional comment available upon request). Market continues to be wrong in terms of its assumptions of the Russian oil sector earnings and cash generation ability in the new macroeconomic environment. Most Non-Oil exporters are benefitting from lower Ruble ( Norilsk Nickel, Gold Producers, Fertilizers etc).

OUR CONCLUSION/RECOMMENDATION

We would be BUYERS of Russian Equities on the way down with 36 month investment horizon. We think that over 36 month period Russian Equities will  deliver 30-50 % return ( 5 -10 % capital gain and 3-5% Dividend Yield per annum), which is attractive in current low return environment, when expected annual return from global equities will be 3-5 % over the same period.  We recommend investors to own 25 % of their allocation towards Russian equities at current level. So if investor allocates USD 1 million to Russian Equities, we would invest USD 250 000, now, at current levels. We would be 50 % invested at RTS level 900. And we would invest the balance on any sell-offs 3 % +. We would emphasize the strategy of buying ON THE WAY DOWN, during sell-offs.

Maxim Achkasov is a Portfolio Manager/ Strategist with 22 year experience in  EM and Russian Equities. In 1991, aged 19, after completing two years of Political Economy study at Rostov State University and watching the collapse of the Soviet Union, Maxim moved from communist Russia to the United States to become a financier. Maxim’s background is a mix of cultural experiences, working on both the buy and sell sides and running funds. Maxim Co-managed Pohjola OP Russia Fund (BBG: POHRUSB FH), 2nd best performing fund in its class globally, based on 24 months performance during 2009-2010. Fund returned 298% outperforming the benchmark by 100%. Fund’s assets increased from EUR130m in May 2008 to EUR660m in February 2011.

Disclaimer

Nothing else contained on this site should be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any security. Nor is it intended as investment, tax, financial or legal advice. Investors should seek such professional advice for their particular situation.

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