I’m going to let you all into a little secret: as I write, there are 3,277 emails in my inbox. This is a good week – it’s been over 5,000 in the past.
Most of the time, I consider my packed inbox to be a downside of my job. I go to bed every night longing to have the time to attend to enough messages to get below 2,500 (this is a government-style adjusted target – it used to be 800).
But when I’m writing a column and wondering what the world’s fund managers think on a subject, the stuffed inbox becomes a blessing rather than a curse – I just type in one search term at the top of my screen and – ping! – up comes more information than anyone could possibly need to praise or trash in 900 words.
If I put in ‘emerging markets’ as a subject, for example, I get a couple of hundred relevant messages. ‘Asia’ gets 300. And if I narrow Asia down to ‘China’ it’s a slightly overwhelming 400. China is as popular as gold with my contacts, albeit for slightly different reasons. ‘Brazil’ gets around 60 and ‘India’ 100-odd. Most of these emails suggest, one way or another, that emerging markets are a great idea, investors should buy into them, and that I should write something to that effect.
Thanks to some mixture of valuation sleight of hand, economic growth or rebalancing of economies from export to consumption they are, or so the story has long gone, bound to go up. Even if they don’t go up they won’t go down as much as the markets based in the misery-ridden economies of the West.
I’ve written here before that I’m far from convinced of this as an argument, especially in regard to China. On top of all the problems Chinese companies had the last time I wrote about them here – bad corporate governance, tryingly high levels of state intervention and a still widely unanticipated economic ‘hard landing’ – they now have Japan to deal with.
Japan’s slightly scary monetary experiment has collapsed the yen, and in doing so changed the competitive environment for every mercantilist nation in Asia. If Japan’s exports are suddenly cheap, so everyone else’s are suddenly relatively expensive. Worse, emerging market companies are not uniformly cheap (although some are).
But there is one emerging market that hardly registers in my magic information box. When I type in ‘Russia’ as a search term, I get no more than 20-odd hits. Now that kind of unpopularity always gets my attention.
So let’s look at Russia. It has all the problems that other countries have. It is famously corrupt. It’s far too dependent on energy – 60% of the MSCI Russia index – at a time when the US is seeing an extraordinary energy renaissance and China is slowing. The state owns far too many shares in far too many companies, which means small shareholders can never be sure that in owning equities, they really own a share in an actual company.
However, there are good things about Russia too. It has a well-educated and politically engaged work force. Its demographic problems aren’t as acute as those of most of the West. There is much talk about the fight against corruption – note the ban on foreign bank accounts for civil servants. Government and private debt levels are low, and the average GDP per head is pretty impressive at around $15,000. Add it all up, and Pictet’s Hugo Bain says that “we are more positive than we have been for many years about some of the changes we are seeing coming out of Russia and the benefits these could bring to minority shareholders”.
But these aren’t the real reasons I’m interested in Russia – we know that economic growth has almost no correlation to stock market performance over the long run. I’m interested in it because it’s cheap and because it won’t stay that way.
Russia’s domestic RTS index currently trades on a price/earnings ratio (p/e) of 5.6 times and offers a dividend yield of 3.7%. But more importantly it trades on a cyclically adjusted p/e ratio (Cape) of just over nine times.
The former is useful to know, but it is the latter that counts – given that it is one of the few valuation methods that actually has a history of telling us something about the long-term direction of a market. Anything under 12-13 times and you tend to make a lot of money over the next decade.
When a market is cheap on a Cape basis, there are normally a million reasons not to buy it – as is the case with Russia today. But if you can close your mind to those reasons, look at the numbers and buy, you usually do pretty well. If an investment isn’t a little bit uncomfortable, it probably isn’t a very good one.
If you want to buy an investment trust, there is the JP Morgan Russian Securities, which charges too high a management fee (1.5%) but is trading on a 10% discount to its net asset value, making your investment even cheaper than it would be otherwise.
In the open-ended arena, there is Neptune Russia and Greater Russia and the Pictet Russian Equities fund. But you might also look at the Russian Prosperity Fund. Russian bears say that Russia is only cheap because the low ratings of rubbish state-owned companies level out the high ones of those with anything tangible to offer. But as Tim Price of PFP points out, this fund has risen 2,000% since its inception in 1996 but its five top holdings still have an average p/e of a mere 5.7 times. In any other less loathed market these would be considered “bottom of the bear” valuations.
So there you go. I give you Russia: it’s a sort of a democracy, it’s cheap and it’s contrarian. What more could a long-term investor ask for?
• This article was first published in the Financial Times