COMMENT: JP Morgan is EM bullish and overweight on Russia

By bne IntelliNews June 20, 2014

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Enthusiasm for Russian stocks seems to be gathering momentum. bne covered this in a piece two weeks ago and since then several prominent investors like Franklin Templeton guru Mark Mobius have come out in public to say "we're buying Russia." JP Morgan is the latest to throw its hat into the ring. 

"We are EM bulls. We are raising Russia to OW from UW in our CEEMEA allocation - as the Ukraine crisis subsides, we want to move back into this consensus UW market which should benefit from the value trade as well as faster global growth. We cut South Africa to UW from N – we see a low-beta market with high valuations and macro risks. Still, our most important call is to be long the EM equity underdog. We add Megafon and Sabançi Holding to the CEEMEA Strategy Top 10 and remove Aspen and Turkcell," David Aserkoff, an analyst with the bank, wrote in a note released this week. 

The bank points out five reasons why emerging market (EM) stocks are attractive at the moment: 

1. Cheap relative to developed markets (DM)
2. Declining EM bond yields & risk premia
3. It thinks global investors are still underweight EM v DM
4. Growth is beginning to beat expectations in certain countries (eg. Poland, Greece, Turkey)
5. Investors have discovered upside political/policy risks e.g. recent election-driven rallies in India and Turkey

"We raise Russia to OW from UW. The two key catalysts are the fading of the Ukraine crisis and the big shift in positioning– GEM funds are UW for the first time since 2009," Aserkoff said in his note. "The EM value trade is working – that should benefit Russia, in our view. The upside risks would come from a better payout ratio from state-owned companies; downside risks from a flare-up in Ukraine, the domestic recession stretching into 4Q (or later) and no increase in the payout ratio. Lukoil, Sberbank and Megafon (just added now) are in the CEEMEA Strategy Top 10 list; we would add: Gazprom, Norilsk Nickel, Megafon, plus dividend-paying mid-caps Moscow Exchange and Alrosa (in our CEEMEA Portfolio on p. 13). We remain OW exporters and Sberbank versus UW the consumer."

One of the reasons that JP Morgan is interested now is that the for the first time since 2008 investors are underweight in Russia, largely driven by the fears of a war between Russia and the West over Ukraine's fate. "The Crimean crisis brought a significant repositioning," Aserkoff says. 

The cooling of tensions over Ukraine are another reason as the bank is taking the position that the West has failed to impose any effective sanctions on Russia and the chance of the so-called Phase III sectorial sanctions that would cause real damage to the Russian economy are fading fast. 

Finally, it is buying because Russia is cheap: Russian stocks have always been cheap on a price/earnings basis, but now for the first time they are also cheap to other EM markets on a yield basis, argues JP Morgan. 

In general, as the rest of the world recovers it should lift Russia with it, as growth means demand for raw materials and fuel, both of which Russia has in spades. "Russia should be a winner as global growth accelerates in 2Q and 2H both in terms of its commodity exports as well as the value trade continues to work in EM," says Aserkoff. 

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