The arrest last weekend of Russia’s richest man, Mikhail Khodorkovsky, and a decision by the Russian government to freeze $14 billion worth of stock in Yukos Oil, the company Khodorkovsky controls,is a reminder to foreign investors of how risky and volatile emerging markets can still be. Although the Russian government’s effort to restructure its economy has been applauded by outside analysts,the Russian Trading System stock index has plunged more than 13 percent since Khodorkovsky’s arrest. Still, the Yukos affair has not led investors in Russian markets or analysts to panic or makecomparisons to 1998, when Russia defaulted on its debt and devalued its currency, the ruble. Instead, they are taking a positive, but more cautious, view of the future. They do not advocate gettingout of Russia, but they do say that rushing in just because Russia is a popular emerging market is not a good idea.
There is absolutely no question that there has been a sea change since 1998 and that Russia has come out of the crisis better than anyone expected, said Desmond Lachman, a visiting scholar at the American Enterprise Institute and a former emerging-markets research director on Wall Street. But Lachman added, These are very disturbing developments that are going on now and look very problematical from an international investor’s point of view.
[The news that prosecutors froze 1.2 billion Yukos shares 44 percent of the total, the company said sent the country’s already reeling stock prices plunging 8.1 percent on Thursday. On Friday, the RTS index recovered ground, and was 3.5 percent higher in afternoon trading. [The seized shares are owned by Khodorkovsky and his partner, Platon Lebedev, who was arrested in July. Those shares were worth $14 billion at the start of the day but $12 billion by the end. [The move came as the Kremlin announced that President Vladimir Putin had removed his chief of staff, Alexander Voloshin, who had already submitted his resignation to protest Khodorkovsky’s arrest. Putin replaced Voloshin with Dmitri Medvedev, 38, a lawyer who had been Voloshin’s deputy. [Compared with Boris Yeltsin’s presidency, Putin’s term has been noted for its stability. The move on Thursday was the most significant change in his inner circle since he took office nearly four years ago and demonstrated the wide political ramifications of Khodorkovsky’s arrest.] One reason for a measured response from foreign investors to the turmoil is that other Russian markets have not fared badly since the arrest. The ruble is off just 0.3 percent and an index of the country’s government debt is down just 2 percent since last Friday. In addition, the fiscal health of the government is much better than it was in 1998, when the government was finally forced to devalue the ruble and default on its debt. Since then, the ratio of general government debt to Russia’s domestic economic output has fallen to 32 percent from 93 percent, according to Moody’s Investors Service. Moody’s upgraded Russia’s euro bond debt to investment grade just two weeks ago. Interest payments on government debt, which were 10 percent of government revenue in 1999, have fallen to 5.4 percent. The level of international reserves has risen to $65 billion from $8 billion, and is now well above the $40 billion total of marketable government debt held by foreigners, according to Moody’s. Lastly, other emerging markets have not been dragged down, so far, by what is happening in Russia. The Morgan Stanley Capital International emerging-markets index has climbed more than 2 percent since last Friday. Mohamed El-Erian, who is in charge of emerging-markets portfolio management at Pimco, said: We have cash on the sideline and we view this as an opportunity to buy government bonds. The neighborhood is a much more stable place than it was in the late 1990’s.
But, he added, the Yukos affair is a very important reminder that Russia still has important problems of corporate governance, the rule of law and the cult of personalities.
For the equity markets, El-Erian said, it should serve as a dampener of the enthusiasm that had taken hold, with people pouring into Russia.
At Moody’s Investors Service, Jonathan Schiffer, the lead analyst on Russia, said the effect on the ability of the government to pay its debt would be minimal, even under the worst situation, in which Yukos was eventually renationalized by the government.
We don’t see it as a change in the general direction of economic development or the beginning of an attack on other corporations, he said. Ian Hague, a partner at Firebird Management in New York, which manages five hedge funds investing in Russia, said there is very little risk that the credit standing of Russia will be hurt at all.
Referring to the sharp fall in stocks in the last four trading days, Hague said: Down at this level of stocks, a lot of the risk has been priced in. We would be looking to buy here if we had cash.
Hague said that based on the action on the Moscow Interbank Currency Exchange, which trades Russian stocks in rubles, a lot of the selling seems to be coming from local investors. This development is disturbing to Gary Kleiman, senior partner at Kleiman International Consultants, an advisory firm on emerging markets to institutional investors and government agencies.
What’s really driven the rally has been domestic investors, he said. Foreign investors have been late to the market.
This means that some foreign investors are already suffering a little. The Russian Trading System stock index was up 65.7 percent for the year before Khodorkovsky’s arrest. But in the wake of the market’s most recent convulsions, foreign investors who have gotten into the market since July now have losses on the year or very small gains. Lachman, the American Enterprise Institute scholar, also noted how much of the improvement in Russia’s economic position had depended on the rebound in the price of crude oil, which is now more than $28 a barrel, compared with an average price of around $14 a barrel in 1998.
Russia would be a very different place if oil were back under $20 a barrel, he said.
