Tim Gosling in Moscow -
A cocktail of history, education and horror stories such as the MMM pyramid scheme has traditionally kept a lid on investment by the Russian small investor, but in the last two or three years domestic mutual funds have witnessed a surge of money coming in. Although the retail market remains a bit-player compared to the first two waves of investors to hit Russia's equity markets international money and large Russian players analysts say mutual funds have finally taken off.
With open-ended funds a bastion of the middle class around the world - appearing to have the legs to continue attracting new investors for some time, these investment vehicles are set to play an increasingly significant role on the equities market. During the flight of international investors from emerging markets in May last year - and to a lesser extent the blip stemming from China this March domestic investors did much to help shore up the Russian market. Whether the blooming of mutual funds will help or hinder this stability remains to be seen.
Last year, the total volume of assets under management (AuM) in domestic mutual funds doubled to around $20bn, with approximately $6bn of that in open-ended funds. Inflows in the first quarter of this year suggest this rate of growth should be maintained, according to Deutsche UFG strategist Georgy Kartashov, with weekly figures revealing average net inflows of $116m. "Only once we reach $100bn is it likely to slow down," he reckons.
Although starting from a far lower AuM base, the bank points out that the recent inflows to domestic mutual funds average out to roughly that of international equity funds flows, given their recent weak dynamics.
For Kartashov, the stability of the Russian equity market is the key for any acceleration, which would in turn help people to put past disasters out of their minds.
Oleg Larichev, portfolio manager at Troika Dialog Asset Management, also stresses the huge returns experienced over the last few years. Although most analysts agree that growth is slowing and the days of earning 6070% annually are set to be replaced with 20% returns, they argue this still outstrips the alternatives.
The new impetus in mutual funds hasn't been lost on the industry. The mushrooming of new funds is based on the argument that they alone can offer small investors a real return on their money, given that bank deposits, bonds and the like offer rates that can't even compete with inflation.
Troika, for instance, with one of the longest records in mutual fund management, is opening a set of sector-specific funds this summer, with electricity, metals and mining, telecommunications, and consumer equities the targets. This reflects the growing sophistication of investors, says Larichev, but also points to the increased competition in the industry overall, which is forcing funds management firms to work harder for their share of new money.
However, with disposable income steadily rising and just a fraction of the population displaying any knowledge of mutual funds, the volume of cash that could be destined for such vehicles is vast.
In March, the Public Opinion Foundation conducted a survey across 44 Russian regions, only to find that just 1% of respondents could accurately describe a mutual fund. Kartashov estimates that mutual fund investors are mostly restricted to the top 10% of the country's income spectrum, and that 80% of them are based in Moscow or St Petersburg.
The marketing departments of new investment firms obviously have quite a task ahead of them but one that could be well worth it.
"Despite the fact that most Russians are not familiar with mutual funds," the survey commentary continues, "22% of all respondents (27% of young people, 30% of graduates, 28% of high-income earners, and 29% of Muscovites) say they would invest in a mutual fund if they had enough money. Only 5% of those surveyed (10% of high-income and educated respondents, 14% of Muscovites) think that people with income levels similar to their own can afford to invest in mutual funds."
"I think the peak is a long way off," says Kartashov. "There's so few people that know about mutual funds in Russia right now, and they're still putting their disposable income into the bank or their home."
All of which means that domestic mutual funds will have an ever-greater significance on the equity market. In the simplest terms, they are increasing liquidity these days at the same rate as the international funds, which Kartashov points out have powered 75% of the equity market's current free float of around $250bn to date. Larichev says that domestic mutual funds have already helped speed the price appreciation of Russian equities.
Yet as mutual funds' share of the equity market grows, so does their influence. Open-ended domestic mutual funds now have around $6bn under management; by the time they constitute 10% of the market, commentators agree, they will be a force to be reckoned with.
Until recently, much of the cash going into mutual funds came from savvy investors, using them as a low-threshold vehicle to play the market. The capital, therefore, tended to dance the hokey-cokey. Now, as the investor profile expands and moves further down the income spectrum, horizons are extending. But like international retail funds recently, less plugged-in investors can prove skittish when the market drops.
"Mutual funds could easily hit $50bn by 2010 as long as we continue to see growth on the equity market say 20% per year," says Kartashov.
He suggests that once these funds constitute 10% of the free-float which could happen in 2008 at current rates then legislation to protect the stability of the equity market might be needed. At present, regulations covering Russian mutual funds guard investors only.
Larichev isn't concerned, though. He suggests that the magic number is 10% of the total market capitalization which currently stands around $1 trillion - and that won'y happen for at least a decade.
"When the total volume hits perhaps $100bn, that's when the market will have to take more notice of their effect," he says. "For now, our investors remain fairly sophisticated."
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