Roman Zadyrako -

The euphoria in Ukraine's stock market after the Orange revolution may have faded, but positive investor sentiment returned once a new government was formed in the summer.

Ukraine's equity market entered a new era after the Orange Revolution in late 2004 Ukraine. Foreign investors suddenly discovered the new market in the heart of Eastern Europe with a well developed industrial sector, educated and inexpensive labour, and a growing consumer base. Major political changes also supported this positive investment sentiment in 2005.

By 2006, though, the euphoria had begun to fade. Somewhat hasty political and economic decisions by the Orange government took the edge off people's optimism, while tensions mounted as Parliamentary elections in March approached.

The indecisive outcome of those elections marked the beginning of a prolonged period of political uncertainty. This weighed on the economy, leaving it at a fork in the road as the various factions vied for power.

This confusion was not lost on equity investors, who began to reassess their assumptions about Ukraine's future. The spring saw a general sell-off in all of the emerging markets around the world, but in Ukraine the lingering political uncertainty added to the impetus.

Inflows of fresh investment largely dried up, hurting liquidity and displaying the real lack of depth to the market. This trend continued into the summer, with sellers dominating the trading of many issues, not only of second- and third-tier stocks, but also blue chips.

While a number of private and institutional investors shifted their attention to other markets, experienced investors familiar with emerging markets in the countries of Central and Eastern Europe and the CIS continued to see value in Ukraine, and saw the summer doldrums as a buying opportunity.

Political clarity returned in August with the formation of the new ruling coalition in the Parliament and a new government taking office. Although the personalities in the key political posts may have produced mixed feelings, the market received a shot-in-the-arm that will probably carry it through to the end of the year.

Investors' approach to Ukraine has changed this year with many becoming more conservative in their valuations. Yet as the year comes to its close, it is also becoming more apparent that heavy industry is slowly losing ground to softer sectors driven by rising disposable incomes and a rapidly developing consumer society.

Banking sector on a roll

In the past few years, acquisitions in the financial sector have led the way for further development of the banking industry, which is rapidly emerging to handle the accumulating financial wealth. Most importantly, banks in Ukraine have started opening up and most recently shifting their focus to retail consumers from corporate clients.

In 2005, the banking industry in Ukraine outperformed that in the rest of the CEE region, with assets growing by 58.7%. Following Raiffeisen's purchase of Aval bank, the country saw similar deals involving Hungary's OTP and France's BNP Paribas, which respectively snapped up Raiffeisen's independent Ukrainian branch network and Ukrsibbank.

At present, a Banca Intessa deal for the acquisition of Ukrsotsbank is pending and should be completed in early 2007, while smaller Ukrgazabank is actively looking for a buyer. The two remaining large banks owned by the state, Oschadbank and Ukreximbank, should also be privatised in the foreseeable future. The competition for these potential giants is expected to be fierce.

Both local and foreign players have been promoting consumer borrowing, and mortgage and retail consumer loans are becoming the norm. At the same time, bank deposits remain the most popular savings instrument, as the mutual and investment funds industry is only just emerging.

We should also note the central bank, the National Bank of Ukraine, has taken a number of steps that were favourably received by the commercial banks, including lowering reserve requirements and the planned cancellation of a pension fund fee currently applicable on all financial transactions. All banks are also now required to be registered as an open joint stock company, which will definitely improve their transparency.

We should also note the development of the side businesses in the financial sector, as many banks are opening and running affiliated insurance and leasing businesses in their attempt to tap into the growing consumer market.

Beyond doubt, Ukraine still has a long way to go before the reforms take hold. At the same time, though, there is a whole array of opportunities for long-term investors looking for value.

Roman Zadyrako is head of equity sales at Foyil Securities in Kyiv