Mother Russia's Allure

We've had a watchful eye on Russia all year as it plays into one of our main macro themes: owning countries that will benefit from commodity reflation and can supply THE client (China) with the resources it needs for domestic growth.

As we've noted in previous posts, despite the risk premium associated with owning the Kremlin's leadership and negative fundamentals, you can't argue with the Russian stock market's (RTS) +27% YTD performance, despite Friday's pullback.

Below are negative and positive fundamentals and data points to consider when owning Russia:

Negatives:

1. Increased corporate debt default risk. By some estimates Russia has $780 Billion of corporate debt, $135B-$220B of which is short term debt due this year. The deterioration of internal credit markets has pushed rates up to 15% and 20%, prohibiting refinancing of many loans.
2. Uncertainly and lack of transparency with respect to Russia's banking crisis.
3. IMF forecasts the economy to contract 6% this year, versus government's forecast of 2.2% contraction.
4. Unemployment currently stands at 9.5% and should continue to climb this year and next, according to anecdotal evidence.

Positives:

1. Russia will likely remain a strong horse as long as commodities reflate. Our underlying thesis here is that if the USD can break down equity and commodity asset classes will get a bid to reflate. Oil is up 16% YTD.
2. Monetary Policy. On 4/24 the central bank lowered its main (refinancing) interest rate 50bps to 12.5%, the first cut in nearly two years. (See charts). Additionally the central bank raised its minimum reserve requirements on all retail deposits to 1% as of May, and will increase the rate at an interval of 0.5% until August. The take-away here is that Russia has plenty of room to cut, unlike the US, UK, Switzerland, Canada, and Sweden to name a few. The ability of Russia to influence the direction of its economy through monetary policy is bullish, and raising reserve requirements shows central bank leadership to demand higher standards for lending.
3. Currency. The Ruble has shown relative stability versus the USD and EUR in Q1.
4. Russia's international currency and gold reserves, the world's third largest, increased to $900 Billion. Russia's strong reserves (at the very least) bode well should the government need to address corporate or sovereign default issues.

Look for us to buy Russia via the ETF RSX if we can get our price from a technical level. We last bought Russia on 3/27 and sold it on 4/09 for a 15.79% gain.

Disclosure: No position.

Comments

[Jasper M:]

Reserves in weak hands are not "strong reserves".
Last year showed how vulnerable the Russians are to low oil prices. Depression environment will Kill oil demand, Everywhere. They will be selling gold, probably sooner than later.

May 05 03:53 AM

[Gtarras:]

Keith
where do you get the following numbers from?

$780 Billion of corporate debt, $135B-$220B of which is short term debt due this year

Russia's international currency and gold reserves, the world's third largest, increased to $900 Billion

????

I follow Russia closely, and this is the first time I have seen these estimates. They are greatly inflated compared with what I am seeing. Maybe I am missing something? Thanks.

May 05 11:55 AM

[Keith McCul...:]

We pulled the information from a Bloomberg article, which was corroborated by independent data points. What is the basis for your numbers?


On May 05 11:55 AM Gtarras wrote:

> Keith
> where do you get the following numbers from?
>
> $780 Billion of corporate debt, $135B-$220B of which is short term
> debt due this year
>
> Russia's international currency and gold reserves, the world's third
> largest, increased to $900 Billion
>
> ????
>
> I follow Russia closely, and this is the first time I have seen these
> estimates. They are greatly inflated compared with what I am seeing.
> Maybe I am missing something? Thanks.

May 05 12:26 PM

[Gtarras:]

Well, I do not even know where to begin as far as sources are concerned. I have been follwing Russia market for the past two years closely. First off, I read Russian, and pick up a lot of data from the .ru universe. I also have access to IB research sites. But I also thought many reputable info providers like Bloomberg had the numbers consistent with what I know. Here is what I thought they look like:

Russia corp debt is about $450B total (about $130B- $190B is due this year). Sovereign debt is about $20B (peanuts).

Total reserves stood at $650B last June, but they have used a third to defend currency (down to $400-$$500B), and are using quite a bit to help "system forming" corporations to meet the debt obligations.. All together, I believe some Russia based economists estimate that the real reserve currently stand at around $300B+ if you factor in the govt's guarantee s for the corp debt...

With oil climbing now, the reserves are being replenished. I am actually long Russia.






On May 05 12:26 PM Keith McCullough wrote:

> We pulled the information from a Bloomberg article, which was corroborated
> by independent data points. What is the basis for your numbers?<br/>

May 05 02:21 PM

[Keith McCul...:]

We are have been long Russia and are bullish on Russia, but are price dependent. Oil is a huge positive, as you note.

May 05 10:51 PM

[Greyowl:]

I can confirm Gtarras numbers.

As Russia goes, the author and others are right to consider Russia an emerging economy based on oil. But there is a twist - Russia has relatively well educated population and tries hard to diversify its economy and wean it from oil.

On the other hand, we should not underestimate the main trend in Russia - more and more, it's becoming a state capitalism, with huge monopolistic companies controlled by/linked to the government. And what government? Former KGB officers with certain mentality. Not a pretty picture

So, while I am long on Russia at the moment, its long-term future is quite uncertain


On May 05 02:21 PM Gtarras wrote:

> Well, I do not even know where to begin as far as sources are concerned.
> I have been follwing Russia market for the past two years closely.
> First off, I read Russian, and pick up a lot of data from the .ru
> universe. I also have access to IB research sites. But I also thought
> many reputable info providers like Bloomberg had the numbers consistent
> with what I know. Here is what I thought they look like:
>
> Russia corp debt is about $450B total (about $130B- $190B is due
> this year). Sovereign debt is about $20B (peanuts).
>
> Total reserves stood at $650B last June, but they have used a third
> to defend currency (down to $400-$$500B), and are using quite a bit
> to help "system forming" corporations to meet the debt obligations..
> All together, I believe some Russia based economists estimate that
> the real reserve currently stand at around $300B+ if you factor in
> the govt's guarantee s for the corp debt...
>
> With oil climbing now, the reserves are being replenished. I am actually
> long Russia.
>
>
>
>

May 08 09:11 AM

[R0B50:]

Ah yes.
Another winner for Seeking Alpha.
A good article is completely disputed by 2 different posters and the article remains unchanged.
Ofc relying on Bllomberg and the like is fair, but come on...
If people say you are using the wrong numbers, at least acknowledge it by editting in a comment on your sources and there is dispute.
By not bothering and making people have to read the comments to see that you may be using numbers that are really off the mark you lose all credibility.
Shame really because I thought it was a good articvle until I read the comments.
This model of Seeking Alpha for contributors sucks and lacks any real journalistic merit.
A Bulletin Board or forum system is more what this site is.
I hate railing against this site because I do read it hoping to get some good insight from knowlegable people.
I even get that from time to time, but the crap I have to read to get the good stuff is unreal.
If this is what journalism of the future becomes, god help us all from the self-serving masses and their biased, or just plan poorly researched, views.

May 08 07:15 PM

[Leo Zimmer:]

Your narrowly chosen thesis makes little sense in light of the very broad topic the name of the article suggests. Reducing Russia to the issues of corporate defaults and price range of the chosen ETF is just a poorly done excersise, which leads to confusion. This subject deserves better research and deeper coverage.

Long: NILSY, MTL, Rosneft, Sberbank and RSX via Nov'09 calls.

May 12 08:27 PM

[Keith McCul...:]

Leo, Investing is all about determing what is important. While the above isn't a graduate thesis on Russia, obviously, it does outline the key components of what will drive the Russian equity market.


On May 12 08:27 PM Leo Zimmer wrote:

> Your narrowly chosen thesis makes little sense in light of the very
> broad topic the name of the article suggests. Reducing Russia to
> the issues of corporate defaults and price range of the chosen ETF
> is just a poorly done excersise, which leads to confusion. This subject
> deserves better research and deeper coverage.
>
> Long: NILSY, MTL, Rosneft, Sberbank and RSX via Nov'09 calls.

May 13 07:11 AM

[RiskReturnO...:]

Russia is great emerging markets exposure, but too bad there are too many people who lump it in with the other BRIC countries. So anything negative in China, India, or Brazil will affect RSX. One needs to activey manage total BRIC market exposure, perhaps overweight RSX, but short another country (e.g., India?) to get more balanced risk-reward.

The concern is too many asset classes in a "typical" portfolio is riding on the same thesis (China growth, oil prices, etc). For example, Aussie dollar, agriculture commodity, Chile (Copper), US materials sector, etc. Just check the correlations among these to see how prudent one must be in managing total China exposure:

RSX, FXI, EWA, FXA, DBA, ECH, EWZ, XLB, XLI, DBO, DBB, ..... if China says GDP growth is actually 6%, not 9%, .... watch out!

May 13 10:36 AM