Foreign investors shun 'boring' Russian stocks as ETFs shrink

[NEW YORK] Russian stocks are posting some of the best returns in the world this year. And foreign investors just don't seem all that interested.

Traders have pulled more than US$435 million from Russia- focused exchange-traded funds in 2016, data compiled by Bloomberg show. Only ETFs investing in China and Taiwan have had bigger outflows in emerging markets. Investors added about US$442 million into Russia-dedicated funds in 2015 even as the nation's stocks dropped for the third year in a row.

The Russian funds have been shrinking this year amid concern that the equity rebound is running out of steam as a rally in oil prices, which largely influence the country's financial markets, falters. Economists forecast an L-shaped recovery for Russia, where a sharp decline is followed by a prolonged period of slow growth.

For investors, this means its time to find opportunities elsewhere, according to Rudolph-Riad Younes, who sold his stake in the largest Russia-focused fund as a portfolio manager at R-Squared Capital Management LP last year after holding it since 2009.

"At some point the ETF was a good way to play a tactical trade on Russia, but the momentum is gone and people got out," Mr Younes said by phone. "Russian stocks rise as oil rises, they drop as oil falls, but it's a rather boring market that right now doesn't have a lot of potential."

Russia, the world's largest energy exporter, is mired in its second year of recession as oil selling for a little more than half its five-year average price exacerbates the impact of international sanctions linked to the Ukraine conflict.

Tim Love, a money manager who helps oversee US$130 billion at GAM UK, still sees opportunities for selective investing in Russia, as some stock valuations already reflect the impact of foreign sanctions and lower crude prices.

"Some sectors of the market in Russia are doing better than others, and I think you're much better off buying individual stocks than an ETF," Mr Love said by phone from London. "I'm quite optimistic on Russia at these levels." Love is overweight Russian exporters in his portfolio and likes stocks including Novolipetsk Steel PJSC, Bashneft PJSC and GMK Norilsk Nickel PJSC. He said he used the VanEck Vectors Russia ETF as a temporary vehicle to gain exposure to the market before reallocating the capital to individual stocks.

The VanEck Vectors Russia ETF, the largest focused on the nation's equities, has posted a net outflow of US$319 million this year, and the number of shares outstanding slid 20 per cent from a record high in late March. The price has rallied 17 per cent in 2016, placing it among the 20 best-performing US-listed ETFs of similar size.

The US$285 million iShares MSCI Russia Capped ETF has gained 19 per cent this year, while the US$52 million VanEck Vectors Russia Small-Cap ETF has appreciated 38 per cent.

GROWTH OUTLOOK

Russian stocks in the dollar-denominated RTS Index have rallied 20 per cent in 2016, the best performance in the world after equities in Peru and Brazil.

While Russia is poised to emerge from its longest recession in two decades, economists forecast slow growth throughout 2017.

Gross domestic product will shrink 1 per cent this year and expand 1.2 per cent and 1.5 per cent in 2017 and 2018, according to the median estimates of economists surveyed by Bloomberg. GDP increased 5.1 per cent in 2010 following the global financial crisis of 2008-2009. Brent crude, the oil grade used to price the nation's main export blend, has slid from US$115 a barrel in June 2014 to US$49.17 on Friday.

"Nothing is happening to stir investors' interest in Russian market," Vladimir Vedeneev, chief investment officer of Raiffeisen Asset Management in Moscow, said by phone last week. "As sanctions are still in place and oil levels are far from where they were two years ago, investors who aren't tied to the market are looking for opportunities somewhere else."

BLOOMBERG