Sanctions on Russia which have so far cost it more than $100bn may end up working in its favour by making it one of the European countries best prepared for the coronavirus-related economic shutdown.
This is according to Matthias Siller, manager of the Baring Emerging Europe trust.
The US and EU applied sanctions to Russia in 2014 following its invasion of Crimea in Ukraine. While these have depressed valuations and increased the cost of capital over the past six years, Siller said they have also led the country to be more self-sufficient.
“In a way, Russia was self-isolating long before Covid-19,” he said. “If Russia was as dependent as it used to be on imports it would be hit far harder right now.
“For better or for worse, the sanctions have forced Russian industry to diversify, firstly, then the growth in its agricultural industry has kept inflation low, because if Russia had to import foodstuffs, the weakening rouble would translate into higher prices.
“From an economic perspective it is super positive because it leads to a situation where you become more competitive without incurring the negative effects of inflation or rising inflation expectations.”
Another way the sanctions have helped Russia prepare for coronavirus is by forcing it to get its finances in order.
An article on the FT noted it diverted excess income from sales of oil & gas into a sovereign wealth fund. As a result, it ran a budget surplus for the last two years and increased its foreign currency reserves by 50 per cent from the end of 2015 to the start of 2020.
Siller said this means it does not have the “Achilles heel” of most other emerging markets.
“What is currently hotly debated in academic circles is the inability of emerging markets to follow suit with what developed markets are doing in terms of aggressive fiscal and monetary easing,” he continued.
“If they do that you essentially wave goodbye to your currency: if you start printing those South African rands, Chilean pesos, Hungarian forints or Turkish Lira – contrary to the euro or to the US dollar there are not enough fixed income investors or central banks willing to buy those and that's what translates into debasement essentially.
“Russia can run any kind of budget deficit it wants. It could still retire its own currency. Russia could exchange every single rouble in circulation and on bank deposits into US dollars and still have money left to buy back all outstanding roubles and exchange them for US dollars at today's exchange rate if it wanted. So Russia really stands out.”
The main reason the rouble has fallen this year is because of the collapse in the price of oil, which Russia’s economy is heavily dependent on.
Performance of index in 2020
Source: FE Analytics
Yet Siller pointed out that following the introduction of sanctions, oil companies in Russia have echoed the actions of the government in the conservative way they are being run, which should stand them in good stead in the crisis.
“What differentiates Russian oil companies from Exxon is they have a low amount of projects outstanding that require huge capital outlays going forward. And on top of that the balance sheets themselves look good – they are not geared.
“So Russia has been negatively impacted by low oil prices to a far lower degree.”
The flipside to this however is that increasing your Russia exposure is not the best way to play a long-term bullish stance on oil.
Yet this suits Siller, who doesn’t regard oil as a long-term asset, but a “sunset industry”.
“It is for the benefit of all of us that it is declining, but we think with Russia, hopefully you will be able to provide investors with an interesting exposure to this managed decline – that is my interpretation, these companies would probably paint it in a different colour.
“I look for companies that manage what is going to be a sunset industry by not being adventurous with new assets and returning as much cash as they can to shareholders.
“I'm certainly not trying to find an exciting new angle to Russian energy. But at the same time I'm also not waking at night fearing about its existence.”
Data from FE Analytics shows Baring Emerging Europe has made 27.48 per cent over the past five years, compared with gains of 15.03 per cent from its MSCI Emerging Markets Europe 10/40 benchmark.
The trust is on a discount of 13.82 per cent compared with 10.56 per cent and 11.57 per cent from its one and three year averages.
Performance of trust vs index over 5yrs
Source: FE Analytics
It has an ongoing charges figure of 1.49 per cent. It is not currently geared.