After a terrible year in 2018 sentiment towards emerging markets (EMs), and Russia in particular, seems to be turning more positive after EM bonds funds had their second best week on record in terms of inflows and equities also attracted new money, Slava Smolyaninov, executive director, chief strategist of BCS Global Markets, reports.

“EM assets still got a lot of love last week as it proved second best on record for EM bond funds. Inflows into stocks stayed at a steady healthy level with no signs of overheating – unlike those of bonds,” Smolyaninov said in a note to investors.

The stock trading company EPFR Global released its fund flows data through the week ending February 12 that reports Russian assets saw circa $370mn of net inflows from combined equity and bond fund flows in the week, compared to circa $240mn in the previous one, BCS reports.

While Russian bonds were an investors’ favourite in 2017 and for half of 2018 as well, until the US Treasury Department (USTD) slapped sanctions on Russian aluminium producer Rusal and Congress threatened to target bonds with “crushing” sanctions this year. However, after these sanctions failed to appear at the end of last year and Russia just put in record current account and federal budget surpluses for 2018, the interest in Russian bonds is perking up again.

The USTD decided to drop the sanctions on Rusal completely in December 2018, which has improved sentiment further. And confidence just got another boost: Moody’s returned Russia to “investment grade” in February, completing the hat trick of investment grade ratings from the leading ratings companies.

Russia’s equity market has been range bound with the dollar denominated Russia Trading System (RTS) oscillating around the 1,000 mark since Russia annexed the Crimea in 2014, although the market did re-rate in 2016, returning 50% y/y, after investors became convinced the sanctions regime would not get much worse. While there have been some stellar returns to be made at the corporate level as the crisis caused a consolidation in many sectors, the overall market has remained the purview of the brave and inflows have been depressed from boom-year levels.

That said, Russia-dedicated funds managed to attract circa $30mn in the last week, the largest inflows since mid-October, vs $1mn outflows in the previous week, BCS reports.

“Finally, Russia-dedicated funds got some new money last week, while inflows into GEM funds continued at a solid pace. This made overall inflows into Russian stocks almost reaching $200mn, largest weekly intake since April last year. However, this was still well below the overheated start of 2018 when weekly inflows were roughly twice as big. The beginning of the year was outstanding for EM assets, including Russia, so some pull back would be healthy at this stage. However, we remain tactically positive still,” Smolyaninov said.

A combined circa $190mn flowed into Russian bond and stock funds last week, up from $160mn in the previous week, which is the biggest inflow since last April, says Smolyaninov.

Bonds remain the favoured vehicle, which also suggests that the recovering of sentiment remains early in the cycle as interest bonds typically lead equities by months, even years, when Russia is recovering from one of its periodic crises.

The flows into Russia are set against the backdrop of rising enthusiasm for EM assets. The combined inflows into EM bond and stock funds was the highest in the last two years, according to EPFR Global’s data.

The RTS closed at 1,218 at the end of January was trading at 1,194 as of February 12, which is a 14% gain year to date. Its sister index, the ruble denominated Moscow Exchange Index (MOEX), was up 7% year to date as of the middle of February.

Using bne IntelliNews’s rule of thumb that the RTS index level should be simply x20 the price of Brent oil then the market is currently overvalued by about 80 points. However, the average price of oil in January was $56.6, which compared to last year is low. Analysts don't expect oil prices too fall from here, but depending on Russia’s continued participation in the OPEC+ oil production cut deal (the next meeting with OPEC is scheduled for May) then the price of oil could increase as the year wears on.