13 December 2019
Prospects grow for a brighter year for Russian ECM
Russian issuance has been a success story in what has otherwise been a largely disappointing year for the EMEA equity capital markets. Positive momentum should carry through into 2020 with hope that IPOs will follow a good year for blocks and beef up the Russian stock market
Primary equity market activity in Russia in 2019 has followed a strong year in secondary equities, which if sustained through to 2020, should continue to drive ECM.
Russia’s benchmark MOEX Index had grown by 30% between the start of the year and the end of the first week of November. The top two performers year-to-date have been industrial holding company Sistema and energy firm Gazprom, up 82% and 74% so far.
When combined with strong fundamentals, Russia’s outperformance relative to other indices, has made it one of the most popular regions among EM equity fund managers.
“We see equity investors as being positive on Russia — by our calculations, Russia is the largest country overweight for actively managed global EM funds,” says Ruslan Babaev, co-CEO of Renaissance Capital in Moscow. “Investors like the de-risking of the Russian economy that they have seen in the past four or five years: floating the rouble, adopting inflation targeting and the budget rule, rebuilding FX reserves and the budget surplus funds, as well as companies paying much higher dividends now than in the past.”
Oligarchs come to market
The growth in the value of listed Russian stocks in 2019 has prompted a resurgence in equity capital markets issuance, after a dire 2018.
According to Dealogic figures as of the end of the first week of November, Russian equity capital markets volume was up by 336% in 2019 compared with same period in the year before.
The increase in Russian equity capital markets activity is astounding given total EMEA volumes declined by roughly 18% and overall emerging market EMEA equity capital markets volume is down by 7.8%.
The $3.2bn of Russian issuance was the most from a single country in EMEA EM equity capital markets in 2019 as of the beginning of November, although it will almost certainly lose its crown should Saudi Aramco list on the Saudi Tadawul exchange in December.
Most Russian volume emanated from secondary accelerated trades, with shareholders, often wealthy oligarchs, taking advantage of warmer investor sentiment towards the country and rising stock markets to monetise some of their holdings.
Two of the most prominent sellers in Russian ECM in 2019 were billionaires Roman Abramovich, who sold shares in Evraz and Norilsk Nickel, and Oleg Tinkoff, founder of Tinkoff Credit Systems.
According to Babaev, secondary blocks should “continue if the market rallies during next several months”.
Rising markets incentivised sellers to bring block trades but these transactions could not have happened without the investor demand.
The market was devastated in April 2018, following US sanctions against Russian oligarchs, particularly aluminium magnate Oleg Deripaksa.
However, better relations between Russia and the US, or certainly less noise about further sanctions, spurred ECM in 2019 and should provide a solid base for deals in 2020 if political volatility remains muted.
“One of the reasons behind an increased ECM activity this year is a deferred demand, i.e. some of the deals that we have seen in the market this year were planned back in 2018, but were postponed,” says Boris Kvasov, co-head of equity capital markets at VTB Capital in Moscow. “Additionally, the market has adapted to the geopolitical risks, although they remain to an extent.”
Russian risk though has by no means subsided. The US enters a presidential election year in 2020 and there could be further action in the form of sanctions, like those in April 2018. For some investors Russian risk remains acute.
“In our inactive portfolio we have a very modest amount of money in Russia and the reason for that is quite clear: the overarching risk factors behind Russia has not really changed and it is no less easy to quantify,” says Edward Evans, portfolio manager, emerging markets equity at Ashmore Group in London.
“Given I am a global emerging market portfolio manager I can look across a huge universe that, on a balance of relative attractiveness, is more straightforward than parking my money in Russia and running the risk that I can wake up tomorrow and not be able to give you your money back.”
However, should political pressure on Russia remain muted while geopolitical tension around the rest of the world increases, there will be more deals and more growth for Russian equities.
“On the equity side Russia seems to be a good story, but it’s probably far less to do with Russia itself and more to do with the rest of the world becoming more problematic, on growth and geopolitical risks,” says Vladimir Tikhomirov, chief economist at BCS Research. “Three or four years ago Russia was a standout example of a negative equity story given sanctions, but now all regions are exposed to geopolitical risk, Russia is no longer a unique story.
“Peak Russian geopolitical risk appears to have past and Russia is no longer the top story in the US election cycle after the Mueller investigation, which did not find a lot of evidence of huge Russian interference in elections, meaning it is less of a geopolitical concern for investors.”
Investors speaking to GlobalCapital throughout the 2019 have also highlighted Russia’s low GDP growth as another potential barrier to investment, but with global growth expected to slow in 2020, an improvement in Russian fundamentals might tempt equity investors to support Russian issuance.
Russia is expected to grow more in 2020 with President Vladimir Putin’s government expected to kick-start Russian growth and boost the popularity of his ruling United Russia Party through fiscal spending.
“We estimate GDP growth won’t hit even 1% in 2019 (0.9% versus consensus of 1.1%) tamed by an unfavorable combination of a VAT hike, tight monetary/fiscal stance, and lower export flows. However, all these short-term headwinds dissipate already next year,” says Anna Vyshlova, co-CEO at Renaissance Capital in Moscow. “In 2020, we expect growth to rebound to as much as 2.6% (versus 1.6% consensus), with consumer and investment demand up by 2.9% and 3.6%, respectively.
“Broad-based recovery will be driven both by cyclical and structural factors: a long-awaited easing of both fiscal and monetary policies (75bp of rate cuts left) and effects of pension reform and national projects implementation. In 2021, we see Russian growth at 2.2%.”
IPO supply needed
A resurgent Russian block market buoyed investors in 2019 but masked a more fundamental problem for Russian equity investors, which was a lack of new deals to broaden its stockmarket.
There has been only one Russian deal year-to-date in 2019, the $253m IPO of recruitment IT services firm Headhunter Group on the US Nasdaq. Investors are hoping that 2020 can be more like 2017 when four new Russian companies were brought to market, contributing almost $2bn of issuance volume.
“We know that quite a few companies are considering placements and Headhunter’s IPO earlier this year evidenced that investor demand is in place,” says Vyshlova. “However, investors remain very selective in their demand and a strong equity story is key.”
A number of large Russian companies are considering IPOs again. The biggest deal in the pipeline is a listing of Russian petrochemicals company Sibur.
A Sibur IPO would likely be a Moscow listing, at least primarily, with shares sold by its largest shareholder Leonid Mikhelson.
Sources close to the deal have indicated that the IPO could be as large as $3bn.
Mikhelson, Russia’s richest man according to Forbes, owns 57.5% of Sibur and is understood to be keen to put a value on the asset after first buying a stake in 2017.
Gennady Timchenko, and Kirill Shamalov, Russian president Vladimir Putin’s former son-in-law, also have stakes in Sibur.
Alongside Sibur, Burger King Russia and taxi-app company Yandex Taxi are thought to be considering IPOs for 2020.
“After a volatile 2018, the market is currently reaching a certain balance, and this translated into a number of deals, primarily ABBs, being closed this year,” says Kvasov. “At the same time, any IPO requires significant time for preparation, usually at least six months. In this regard, the most likely window for initial public offerings may be March or April next year on the back of FY 2019 financial results.”
Muted IPO activity in the past two years has come at the same time as Russian companies de-listing from public markets, thereby reducing the number of tradeable Russian equities that investors can buy.
One of the best examples of this trend is Megafon, one of the top mobile providers in Russia, which delisted in 2018. This spate of delisting means that although many investors want to take advantage of Russian equities, the tradeable securities on offer remains small, making new listings an imperative.