Written by Brenda Nakalema

Cheap Russian stocks still failing to entice even the bravest investors

Investors might often follow the age-old advice to be greedy when others are fearful, but the advice is yet to …

Investors might often follow the age-old advice to be greedy when others are fearful, but the advice is yet to be followed when it comes to Russian stocks. The country’s military attack against Ukraine has many investors fearful of what that could mean for the stock market.

The iShares MSCI Russia exchange-traded fund (ticker: ERUS) has lost 44% this year so far- the type of losses that typically attract the bravest of investors. However, many aren’t yet ready to dive in, at least not until they receive more clarity on the situation.

William Jackson, the Capital Economics Chief Emerging Markets Economist, said that the latest sanctions, which have so far stopped short of targeting Russia’s energy exports, could cut roughly 1 to 2 percentage points off the country’s GDP. In an already tenuous situation, the sanctions and threat of further action against the country have led to huge losses in Russian stocks and worse tightening in financial conditions since 2014. Patricia Ribeiro, the American Century Emerging Markets fund manager, has been cutting back the fund’s position in Russia and is rated underweight versus peers amid concerns that there will be more sanctions in the near future, including those that restrict Russia’s access to critical technology and high tech goods therefore further limiting the access to capital.

Other investors, such as Alastair Reynolds, a Global emerging markets manager at Martin Currie, sold one Russian stock early with the hopes of reducing exposure to any state-linked businesses that he deems vulnerable to sanctions. With that action, the fund’s allocation to Russia stood at 2.7%, compared with 3.3% for the benchmark. Investments included a stake in private-sector energy company Lukoil (ticker: LUKOY), which is set to win big from the high oil prices and the weaknesses in the rubble created by the crisis.

A few managers are closely monitoring the situation because valuations are cheap- very low single-digit. Earnings multiples- and financials for most companies have improved a lot over the years, with return on equity this year an average of 15% higher than the emerging markets average. “Geopolitics has made it really difficult, but there are so many companies that are fantastic in terms of profitability. It’s an amazing change,” said James Donald, value manager at Lazard Emerging Markets Equity Fund.

Franklin Templeton’s emerging markets team notes that the initial Russian military conflict didn’t affect stocks negatively: In 2014, After Russia’s invasion of Crimea, the MOEX Russia Index fell up to 20%, but within nine months, it hit an all time high, rebounding roughly 30% from its March lows. However, they anticipate more risk ahead.

“While valuations suggest a lot of risks have already been discounted, a war scenario implies further downside is likely,” the team commented in a note to clients, adding that the conflict is likely to be long and drawn-out. “A prolonged conflict will likely have implications for the current geopolitical order and the shape of European borders for years to come.”