More to Russia than gas
FOR years, investment in Russia has meant little more than investment in commodities and energy. And while those sectors still make up a huge proportion of the country’s wealth, those trying to target high-return emerging market growth in Russia should steer clear of the usual country wide benchmarks.
Renaissance Capital’s Karol Chrystowski says: “Most of the time when people think they are investing in the interesting stories in Russia, they are not; they are purely investing in global commodity cycles.” More than half of the main RTS index, for example, consists of energy equities – mostly oil and gas – and its larger RTS-2 index is similarly weighted (see chart).
Instead, aim for funds that will benefit from Russia’s burgeoning middle-class wealth and infrastructure investment. As a measure of Russia’s growing disposable wealth, Starbucks now has 32 outlets in Moscow since moving into Russia five years ago. And the government continues to encourage this growth with a flat income tax of just 13 per cent and corporation tax of 20 per cent.
To benefit from this growth, you need to target funds that stock pick. Aurora Russia, for example, is a fund focused on business and consumer services such as document storage and money transfer. Aurora Russia’s John McRoberts says: “We think these services will grow much faster than GDP because the market is very underserved. There’s a lot more opportunity there than in traditional industries and commodities, which are owned by people who have been in them for a very long time and are quite political and bureaucratic.”
Underlying much of this growth in consumer services is the government’s plan to spend $2.3 trillion by 2030 on infrastructure. Chrystowski highlights, for example, that the value of parts of the country’s antiquated train network are estimated to have depreciated by 50-86 per cent. Meanwhile, less than half of its airport runways are paved and 60 per cent are not equipped with lights for night-time landings. Updates are an absolute necessity for productivity growth and a huge opportunity for transport companies such as Globaltrans.
Meanwhile, electricity production has undergone wide-scale deregulation over recent years, with foreign investors like Italy’s Enel and Germany’s E.ON piling in. This is not just about oil and gas – some 15 per cent of the country’s energy is actually produced from hydro power. Many investors remain wary of Russian energy investments due to high-profile government expropriation cases in the sector, like that of Yukos. While the risk of state intervention in infrastructure is something to consider, Renaissance Capital’s Sergey Bubnov says that the risk is over-hyped and should anyway be priced in.
Either way, it is not necessary to risk state asset confiscation to benefit from Russia’s middle-class growth. For investors with faith in the appeal of banks, mortgages and cafes, Russia should deliver high emerging-market returns.
SECTOR WEIGHTING FOR RTS-2 INDEX
Power 29.1%
Consumer Goods & Trading 15.7%
Telecommunications 14.6%
Metals & Mining 1 3.3%
Oil & Gas 8.9%
Banks & Finance 5.4%
Water Transportation 5.4%
Industrials 3.9%
Air Transportation 1.9%
Chemical Production 1.5%
Nuclear Materials Production 0.4%