Russian Energy Stocks Now Dirt Cheap

It may take years for the oil market to right itself after the devastating selloff last year, but value investors with time on their hands might want to have a look at Russia’s oil assets.

The collapse in oil prices has devastated the country and caused a serious short squeeze on dollar borrowers that has sent the currency tumbling. Stocks in Russia are now dirt cheap and oil and gas producers are priced more cheaply than anywhere else in the world.

Share prices of three of the biggest energy producers in Russia – Gazprom (OGZPY.PK), Rosneft (RNGZY.PK) and Lukoil (LUKOY.PK), all of which can be bought in New York as ADRs – are down by roughly three-quarters or more from their 52-week highs. Capital flight has put a serious damper on capital spending plans and reduces the outlook for production over the next few years. However, these companies look very cheap on a historical earnings basis.

State-controlled Gazprom is trading at 2 times 2008 earnings according to Thomson Reuters. Rosneft is trading at 3 times earnings and Lukoil is trading at just over 2 times earnings from last year. The market is dirt cheap and offers investors access to the world’s largest gas reserves in the world, not to mention a very large stream of global oil production.

Investors have sold out of Russia due to a one-way bet on ruble devaluation after the bank took the currency down stepwise in 20 mini-devaluations since last August. The currency is off by roughly 30% versus the dollar over the past six months but is stabilizing.

The decision by authorities to defend a slow depreciation of the ruble in the face of capital flight caused investors, even domestic ones, to sell out of Russia to avoid currency losses thus exacerbating the capital flight. This process also caused a slow bloodletting of the country’s foreign exchange reserves, which fell by roughly 35% or $200-billion.

The currency has stabilized in recent weeks and the central bank has successfully defended the lower value it has set for the ruble, although futures markets are still predicting an 18% decline this year.

Ultimately, the value of the currency hinges on oil prices staying aloft. It boils down to a gamble for investors trolling for the bottom, but one where the odds are increasingly improving.

Comments

[mleshem:]

If oil prices keep their lows, will the russsian Ru. will loose value so low that
they will defoult on repayment of foreign loans?

Mar 05 04:04 AM

[gebby:]

see comments at mcdep.com for a full analysis of these stocks. it is a great find, and they are considered a good investment.

Mar 05 09:13 AM

[Conan the B...:]

Russian Government, Chinese Government or American Government?

Do you really trust any of them?

Mar 05 10:16 AM

[notsosmart:]

invest in defaults.well- its your money to lose.

Mar 05 10:49 AM

[Steve Ward:]

Churchill also said of Russia, "It is an enigma, wrapped in a riddle and surrounded by a mystery."

TheRuble and the Russian oil companies all depend on the price of oil and gas. That simplifies it.

Mar 05 10:57 AM

[searcher:]

"Equity" and "Debt" in the Russian context are correlated at "1.0".

Mar 05 12:21 PM

[Conan the B...:]

Russia appears to have tabled its Nationalistic tendencies for now.

The expediency of its immediate economic woes seems to have trumped Putin's aggression for the time being.

Oil may jump if Russia becomes an Opec member.

Mar 06 04:20 AM

[bcncv:]

Dealing with a financial crisis, rumors of a currency collapse, and political risk roughly on par with Venezuela, there's a pretty good reason they're cheap.

I wish you the best of luck with these, but the risks are way too rich for my blood.

Mar 13 01:55 AM

[manuel:]

sorry but were this companies last years earnings high because the oil price was high? What will be with 2009 earnings with actual oil prices of 50$? so they are trading at 2 times earnings from last year, but with oil prices of about a third of last year, 2009 PE would be? May be 4 or more? But anyway i think they are a good buy, exxon is trading at 8 or more times earnings, petrobras 6,5 .

Mar 13 06:10 AM

[User 305589:]

I'd rather buy their debts than their common. The govt could easily tax all their profits at nearly 100% any time or come up with tax-evasion accusations (remember yukos?). Billions have been lost by investors who thought they could make a killing in russia by buying what seemed to be no-brainer cheap assets.
perhaps you can make money on it, but odds are not great over the longer run. It#s tough enough to get markets and economic trends right. But to score well on these AND be on the mercy of the kremlin isn't investing, it's kamikaze speculation where you risk to lose your capital even if you were right about the companies and their ecomics.
No way I will do that (ever again). Instead, consider India - there you have something that China and Russia totallay lack: business ethics AND a functioning legal framework.

Mar 13 07:20 AM

[Chris B:]

The risk of buying into Russian companies can be compared to the risk of buying into Venezuelan companies. Both nations are ruled by unofficial dictators with a history of arbitrarily seizing foreign investments.

In addition to this risk, one must account for the fact that these companies are not run strictly for a profit motive. When Putin tells Gazprom to stop selling gas to Europe in order to "send a message" Gazprom loses revenue. Also, do you think executive appointments are made on the basis of meritocracy?

Finally, PE's of 2-3 sound cheap, but those of us who understand accounting know that in an absence of rules, regulation, or enforcement, such numbers can easily be produced. Depreciate your pipeline on a 200 year basis! Switch from LIFO to FIFO or vice versa depending on how prices change! Inflate your pension interest assumptions! Allocate changes in real estate values to earnings! Set aside no reserves for bad debt! Don't account for dilutive future changes! There are a million ways to do it. They could give GM a PE of 2 and attract a lot of investment.

Investing is trust, period. The distrust of international investors for Russia is well-deserved, and nothing has changed.

Mar 13 10:25 AM

[ricardoRI:]

The Kremlin is unlikely to "nationalize" Gazprom, since it is already effectively an arm of the government. It is by far the most widely held stock in Russia, especially by the higher ups. Excessive confiscation of the wealth produced by it would cause a revolution within the Kremlin.

@Chris B: I agree that their financial statements reveal little truth. The value of the company is the world's largest gas reserves, a private army, and a huge market.

Putin and Medvedev (past president Gazprom, current president of Russia) have the means and the ethics to change the oil market. Disrupting Nigeria's production, encouraging Somalian pirates to attack/sink tankers, etc. would raise crude prices (and hence gas prices)

Mar 13 10:51 AM

[bearfund:]

If you want to understand why these stocks are "cheap", ask BP and Telenor. They know very well why Russian stocks are priced the way they are; they learned the hard way.

Mar 13 12:10 PM

[silver-bug:]

How is that different from buying common stocks in USA? The insiders always make more money from the get-go - IPO.


On Mar 05 08:23 AM Paul&Shark Yachting wrote:

> it doesn't mean the stocks can't go up, they can, but not because
> you got a share in the company, because some other stupid investor
> bidded your shares higher.
> The real $$$ remain reserved only for insiders.

Mar 13 12:55 PM

[infp:]

While I am too chicken to invest in Gazprom, I do agree with silver-bug, the US financial system is rigged in favor of our own insiders. The derivative fiasco, the ensuing bailout of banksters, the Madoff scandal, the 2006 comments of Jim Cramer (how to illegally manipulate stock prices) all convince me that the US equities markets are rigged.

Mar 13 05:36 PM

[Erg:]

I specialize in Russian equities and can shed a light on real numbers: at a crude oil of $40 per barrel Lukoil and Rosneft are trading at .6.5x and 12x earnings - Rosneft has a $20 bln debt to service with large interest payments each year. On an EV/EBIDTA basis they are trading alike at around 5+x. Gazprom is a different earning story. It is trading at current earnings of around 3-4x (which is very low at a face value) BUT the key thing to know about Gazprom is that its earnings are linked to the crude oil price with a lag of 12-16 months (this is how gas prices in Europe are set). Now is the moment when Gazprom is reaping the max level of gains it can have from it sales of gas because crude prices were high last year. However, once you start plugging in real spot prices, Gazprom is then trading at 7x future earings. Not expensive but not dramatically cheap.

From a relative value perspective, there was a re-rating of multiples in the global oil industry with most oil companies in the US trading at 10+ earnings. Petrobras, the main GEM proxy, trades at 15x. There is a case for a discount in Russian assets.

The key trigger is crude oil - a strength in crude oil leads to stronger ruble - that leads to a reduction in yields from current 15% to something more reasonables. This makes stock prices go up. I have over-simplified many things here (Gazprom sales to Western Europe are linked to the price of heavy fuel and not crude oil per se, Oil companies are benefiting from deval of ruble etc) but this is the main punch line

Mar 15 07:04 AM

[manuel:]

thanks a lot, very interesting, i am the one who posted the question you answered, and today I came back to the article to ask why lukoil and rosneft had hold reccomandations, so now I know why, thank you

Manuel

On Mar 15 07:04 AM Erg wrote:

> I specialize in Russian equities and can shed a light on real numbers:
> at a crude oil of $40 per barrel Lukoil and Rosneft are trading at
> .6.5x and 12x earnings - Rosneft has a $20 bln debt to service with
> large interest payments each year. On an EV/EBIDTA basis they are
> trading alike at around 5+x. Gazprom is a different earning story.
> It is trading at current earnings of around 3-4x (which is very low
> at a face value) BUT the key thing to know about Gazprom is that
> its earnings are linked to the crude oil price with a lag of 12-16
> months (this is how gas prices in Europe are set). Now is the moment
> when Gazprom is reaping the max level of gains it can have from it
> sales of gas because crude prices were high last year. However, once
> you start plugging in real spot prices, Gazprom is then trading at
> 7x future earings. Not expensive but not dramatically cheap.
>
> From a relative value perspective, there was a re-rating of multiples
> in the global oil industry with most oil companies in the US trading
> at 10+ earnings. Petrobras, the main GEM proxy, trades at 15x. There
> is a case for a discount in Russian assets.
>
> The key trigger is crude oil - a strength in crude oil leads to stronger
> ruble - that leads to a reduction in yields from current 15% to something
> more reasonables. This makes stock prices go up. I have over-simplified
> many things here (Gazprom sales to Western Europe are linked to the
> price of heavy fuel and not crude oil per se, Oil companies are benefiting
> from deval of ruble etc) but this is the main punch line

Mar 17 04:09 PM

[adamnb:]

Excellent comments. I'm very interested in the Russ mkt. Any way to link up?


On Mar 15 07:04 AM Erg wrote:

> I specialize in Russian equities and can shed a light on real numbers:
> at a crude oil of $40 per barrel Lukoil and Rosneft are trading at
> .6.5x and 12x earnings - Rosneft has a $20 bln debt to service with
> large interest payments each year. On an EV/EBIDTA basis they are
> trading alike at around 5+x. Gazprom is a different earning story.
> It is trading at current earnings of around 3-4x (which is very low
> at a face value) BUT the key thing to know about Gazprom is that
> its earnings are linked to the crude oil price with a lag of 12-16
> months (this is how gas prices in Europe are set). Now is the moment
> when Gazprom is reaping the max level of gains it can have from it
> sales of gas because crude prices were high last year. However, once
> you start plugging in real spot prices, Gazprom is then trading at
> 7x future earings. Not expensive but not dramatically cheap.
>
> From a relative value perspective, there was a re-rating of multiples
> in the global oil industry with most oil companies in the US trading
> at 10+ earnings. Petrobras, the main GEM proxy, trades at 15x. There
> is a case for a discount in Russian assets.
>
> The key trigger is crude oil - a strength in crude oil leads to stronger
> ruble - that leads to a reduction in yields from current 15% to something
> more reasonables. This makes stock prices go up. I have over-simplified
> many things here (Gazprom sales to Western Europe are linked to the
> price of heavy fuel and not crude oil per se, Oil companies are benefiting
> from deval of ruble etc) but this is the main punch line

Mar 18 06:20 PM

[adamnb:]

I believe there's a mistake in the article. Rosneft, the Russian crude oil company, is not listed as an adr in the U.S., but only in Russia and UK. The call letters listed above is for a holding and construction company of storage facilities and pipeline, now literally considered a penny stock ($.02) p/adr

Mar 18 06:31 PM

[manuel:]

do you have an email?


On Mar 15 07:04 AM Erg wrote:

> I specialize in Russian equities and can shed a light on real numbers:
> at a crude oil of $40 per barrel Lukoil and Rosneft are trading at
> .6.5x and 12x earnings - Rosneft has a $20 bln debt to service with
> large interest payments each year. On an EV/EBIDTA basis they are
> trading alike at around 5+x. Gazprom is a different earning story.
> It is trading at current earnings of around 3-4x (which is very low
> at a face value) BUT the key thing to know about Gazprom is that
> its earnings are linked to the crude oil price with a lag of 12-16
> months (this is how gas prices in Europe are set). Now is the moment
> when Gazprom is reaping the max level of gains it can have from it
> sales of gas because crude prices were high last year. However, once
> you start plugging in real spot prices, Gazprom is then trading at
> 7x future earings. Not expensive but not dramatically cheap.
>
> From a relative value perspective, there was a re-rating of multiples
> in the global oil industry with most oil companies in the US trading
> at 10+ earnings. Petrobras, the main GEM proxy, trades at 15x. There
> is a case for a discount in Russian assets.
>
> The key trigger is crude oil - a strength in crude oil leads to stronger
> ruble - that leads to a reduction in yields from current 15% to something
> more reasonables. This makes stock prices go up. I have over-simplified
> many things here (Gazprom sales to Western Europe are linked to the
> price of heavy fuel and not crude oil per se, Oil companies are benefiting
> from deval of ruble etc) but this is the main punch line

Mar 20 08:35 AM