Time to Revise Outdated Perceptions of Russia?

Many investors seem to have misperceptions when it comes to Russia’s economy and the companies located there.

    Nicole Vettise

    Nicole Vettise Senior Vice President, Institutional Portfolio Manager Franklin Templeton Emerging Markets Equity

    Many investors seem to have misperceptions when it comes to Russia’s economy and the companies located there. Our Emerging Markets Equity Institutional Portfolio Manager Nicole Vettise explains how Russia’s economy offers investors a mix of old and new industries, and compelling areas of investment opportunity as a result.

    The double-headed eagle that features on Russia’s coat of arms is said to reflect its geographical position, facing both East and West. Maybe a more apt interpretation is Russia’s continued dominance in the old economy while thriving in the new.

    In our view, Russia is in an enviable position when looking at a number of fundamental factors; it has very little sovereign debt, a current-account surplus and considerable foreign exchange reserves of US$570 billion, equivalent to 33% of its gross domestic product (GDP).1

    RussiaRussia’s Foreign Reserves: An Enviable Position

    Source: United Nations World Population Prospects 2019. F=Forecast. There is no assurance that any estimate, forecast or projection will be realized.

    Oil—an old economy sector—is Russia’s bread and butter, representing 35% of its GDP and 70% of exports. Therefore, it’s fortunate that Russia enjoys a number of advantages over many (or most of) its international peers such as low cost of production, costs denominated in local currency and—perhaps driven out of necessity from years of sanctions—a keen interest in developing its own technology to improve efficiency.

    Take one of Russia’s top tier vertically integrated oil companies. It benefits from a strong balance sheet, long-term reserves estimated to be more than 18 years and is free cash flow positive with oil priced at just US$15 a barrel. Furthermore, it operates in a progressive-tax-regime environment, so when the price of oil declines, the government bears the cost and margins are almost unchanged.

    In recent years, the company has been embracing technology and innovation through its own research and development lab, investing in upgrading its refineries and developing techniques to improve efficiencies and drive down costs.

    New Economy Thriving

    Elsewhere in Russia, the new economy is thriving. Russia’s leading bank, originally founded in 1841 by order of the Russian Tsar Nikolai I, is steeped in history but today claims to “compete with global technology firms, whilst remaining the first choice bank for retail and corporate clients.”

    Certainly, from a traditional banking perspective, it appears impressive, as it reports that it services 70% of Russia’s population of around 92 million people through 15,000 branches.

    But it is so much more than a traditional bank. Its digital eco-system incorporates artificial intelligence (AI), big data and robotization. Already it reports that 40% of client queries are solved by its chat box, and it has created its own private cloud and collaborated with others to offer services such as video streaming, e-education, restaurant bookings and ride sharing.

    Similarly, Russia’s leading search engine has built an impressive ecosystem. Already successfully competing with Google, it offers services such as e-commerce, ride sharing and online music in a similar fashion to Apple Music. Initiatives include a Russian version of Netflix with a plan to create its own content, and it is even developing autonomous cars.

    So, we pose the question: Should outdated perceptions of Russia be revised?

    It would seem that in addition to its continued dominance in the old economy of oil, Russia appears to offer a compelling investment pool for those wanting to ride the structural tailwind of the new reality where consumption and technology offer tomorrow’s drivers of growth.

    ENDNOTES

    1. Source: Nations-Unies, Perspectives de la population mondiale, données de 2019.


    What Are the Risks?

    All investments involve risks, including possible loss of principal. Stock prices fluctuate, sometimes rapidly and dramatically, due to factors affecting individual companies, particular industries or sectors, or general market conditions. Special risks are associated with foreign investing, including currency fluctuations, economic instability and political developments; investments in emerging markets involve heightened risks related to the same factors. To the extent a strategy focuses on particular countries, regions, industries, sectors or types of investment from time to time, it may be subject to greater risks of adverse developments in such areas of focus than a strategy that invests in a wider variety of countries, regions, industries, sectors or investments. Investments in securities of Russian issuers involve legal risks that are specific to Russia, including certain legal, regulatory, political and economic risks.

    Important Legal Information

    The companies and case studies shown herein are used solely for illustrative purposes; any investment may or may not be currently held by any portfolio advised by Franklin Templeton. The opinions are intended solely to provide insight into how securities are analyzed. The information provided is not a recommendation or individual investment advice for any particular security, strategy, or investment product and is not an indication of the trading intent of any Franklin Templeton managed portfolio. This is not a complete analysis of every material fact regarding any industry, security or investment and should not be viewed as an investment recommendation. This is intended to provide insight into the portfolio selection and research process. Factual statements are taken from sources considered reliable, but have not been independently verified for completeness or accuracy. These opinions may not be relied upon as investment advice or as an offer for any particular security. Past performance does not guarantee future results.