Agshin Mirzazade of Foyil Securities -

Since the collapse of the Soviet Union, Ukraine has steadily evolved to become an integral part of the global economy. Together with its vast consuming capacity, which spurs growth of goods imports and foreign direct investment, Ukraine's key role in the global trade in steel, chemicals and agricultural products binds the country more strongly to global economic trends.

As Ukraine expands its role in the global economy, its stock market is finding a closer correlation with the trends on global financial markets. Corresponding to the bullish mood in 2007 and factoring in the rapid development of the Ukrainian economy with the improving financials of its companies, Ukraine's stock market was among the best performing markets last year, growing by 135% over the year to push the benchmark Ukrainian PFTS stock index up to an historic high of 1,209. During the first half of 2008, Ukraine's stock market renewed its status as a strong mover, but this time in the reverse direction. Following the negative trends on global financial markets, between January and June the Ukrainian stock market shed 37% of its value.

One of investors' major concerns this year has been the threats to Ukraine's economic development, especially the heady inflation, which reached 15.5% in the first half 2008, and the widening current account deficit, which resulted in Standard & Poor's downgrading Ukraine's sovereign rating from 'BB-' to 'B+'.

However, contrary to the US and European markets with their decelerating economies and the multibillion-dollar losses suffered by several leading financial institutions, Ukraine's economy remains well-positioned to achieve its target of 6.5% GDP growth in 2008, while manufacturers continue to increase their output and banks expand their balance sheets and improve profitability. For example, over the first six months of this year, Ukrainian banks grew their assets by 17% in the year to date and generated 71% more in net profits compared with the same period last year. Ukrainian steel producers increased their output and enjoyed high world steel prices, effectively transferring the benefits to their bottom lines.

During the summer, while many Ukrainian brokerages were stating that the market slump was not fundamentally justified and investors were contemplating whether the bottom had been reached after the steep decline, another catalyst pushed the Ukrainian stock market further down: the Russian-Georgian war.

Value market

The conflict over Georgia's breakaway regions of South Ossetia and Abkhazia resulted in the Russian RTS index rapidly plunging by 6.5% on the day the war was unleashed, which was echoed in Ukraine with a 2.2% tumble on the PFTS index. The outflow of foreign investment from Russia and the fear that the Kremlin might revisit the Georgian scenario on Ukraine triggered another sell-off on the Ukrainian stock market that has continued into September. As of September 10, the PFTS Index was at 457 points, which represents a 61% decline since the beginning of the year, thereby erasing all the gains made in 2007.

While we believe that the Ukrainian stock market has now turned into a value market, with stocks trading at prices up to 80% below their fair value, it is difficult to foresee when the turnaround will begin. The ongoing turmoil in Ukraine's political arena as Prime Minister Yulia Tymoshenko and President Victor Yushchenko vie for power, is adding to the gloom that foreign investors feel towards Ukraine. We estimate the Ukrainian stock market will continue to drift at the current levels until Western markets recover and establish a consistent positive trend. With a rebound in Western markets, which we anticipate no earlier than in late 2008, we expect that Ukrainian stocks will regain their attractiveness and that many value hunters will discover great bargains.

Agshin Mirzazade is Head of Research at Foyil Securities

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