By Chris Weafer, Chief Strategist at UralSib Capital
Investors are becoming increasingly concerned that the government is leaning on companies to keep domestic prices low as it tries to keep inflation under its target and to stop the cost of materials from rising.
Tariff growth has been lower than expected, gas price liberalisation is moving slowly, oil product prices are under continuous pressure, material suppliers are under near constant investigation by such agencies as the Federal Anti-Monopolies Agency and PM Putin regularly visits food and medicine retailers to check prices. All very good for sustaining economic recovery but a clear risk to earnings growth and valuation for companies/sectors covering a big segment of the stock market.
Asian equities are trading better today after the US rally extended and because Korea raised interest rates. Malaysia, Taiwan and India have all raised rates in recent weeks and that is being interpreted by investors as a sign that economic growth in the region is strengthening. The MSCI Asia-Pacific Index is up 0.7% in afternoon trade led by a gain of 2.4% for the Shanghai Composite Index.
The price of WTI crude is at $75.81 p/bbl and Brent is at $75.02 p/bbl. Oil remains strong despite a much bigger than expected gain in gasoline inventories in the US last week (+1.3 mln bbl versus an expected 100,000 bbl gain) and helps support the view that oil is well supported above $70 p/bbl. Traders are more encouraged with the IMF global growth upgrade and today’s Korean rate increase as an indicator that demand will remain strong.
Moscow’s bourses and the ruble should again open strongly this morning on the back of the favourable international market and oil price trend. But investor reluctance to add more Russia risk, which pulled prices lower into the close yesterday, may again hold back buyers today and limit the market gains. Follow through in the US market may also be limited today as next week sees the start of the 2nd Qtr/1st Half earnings season and prudence will dictate a cautious approach ahead of several key reports.
An indication of the cautious approach towards Russia recently was the fact that while the US indices and oil closed strongly yesterday, the price of Russian ADRs lagged (and Brazil’s market only managed a 0.3% gain). Mechel was the best of the Russian names albeit only adding less than 1.0%. Normally, with such a market gain, its ADR price gain would be up a multiple of that.
The basic fact is that there is no buying interest as traders and longer-term investors have been burned far too often with quick reversing markets and have decided to sit out the summer. Market makers tried to entice some off the fence by lowering prices but to no avail. The other reason for closing weakness was the news of yet another government probe into the materials sector. This time it concerns coking coal prices and reportedly involves Evraz, Raspadskaya and Severstal. The action again highlights one of the risks for investors in some sectors where pricing maybe controlled, either directly or indirectly, by the state. Unfortunately that encompasses a large portion of the stock market.
The same trend was evident in this week’s fund flow report from EPFR. Although overall flows are modest in keeping with the summer season, it was only the second week since January when Russia funds performed worse than Brazil funds. Turkey funds also attracted more money than Russian. Of course one week is more a blip than a trend reversal but it does show greater caution than we have seen for most of this year. India funds attracted $75 mln of new money last week, Brazil funds reported inflows of $29 mln and China funds took in a net $7 mln. By contrast, Russia funds reported net redemptions of $28 mln while Turkey funds took in $15 mln.
Through the 1st half of the year, however, Russia was the most favoured country destination attracting $2,097 mln. That compares with $1,926 mln invested into China funds, $227 mln into India funds and a net redemption of $1,375 mln from Brazil funds.
By the close of the session, even as WTI was trading at $75.6 p/bbl and the Dow was 0.4% higher, MICEX closed off 0.5% at 1,320.6 and the IOB Index of London traded GDRs ended down 0.3%. Rosneft led the retreat on MICEX, falling 1.5%, with Gazprom off 1.0%. It was also the oil and gas sector that led the decline in London as investors worried that the increasingly tough stance by government over pricing may indicate an equally intransigent stance towards oil taxes and a further delay in gas price liberalisation. Novatek ended the session off 2.6% at $75.0. The steel names were in retreat at the close, albeit only Novolipetsk ended with a loss (-0.9%). Evraz and Severstal closed with modest gains of 0.7% and 0.8% each.
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