Market impact of Russia's Crimean adventure

If governments are impotent to punish Russia, markets are not. This was best illustrated by the 11% fall in its stock market on the day of invasion. It subsequently rebounded only by 5%.

The editors, who put newspaper or website headlines in huge letters, assume that political events will have a market impact equal to the size of the type. These events are supposed to move markets. The reality is that they don’t. A third of investors don’t care about political risk at all.


For example, the last Russian military adventure was the invasion of Georgia by Russia in August 2008. The US market barely budged. The US government shutdown last October, was supposed to be catastrophic and it was, for about a day. The gas attack by Syria last August might have resulted in an armed incursion into Syria, but is was defused. The market fell a few points but not much. Civil unrest has haunted emerging markets including Thailand, Venezuela and Brazil for months. But all the chaos on the streets of Bangkok, Caracas and Rio de Janeiro has had less of an effect than a few off handed remarks by a member of the US Federal Reserve.


Now we have seen a brief pull back because of the Russian occupation of the Ukrainian territory in Crimea. The market sprang back to new highs. It would be simple to brush this event off as the market apparently has, but is there something different about the latest crisis that might make the market’s reaction premature? Are investors just careless in dismissing political risk as simply irrelevant?


The first difference is size. Russia is the ninth largest country in the world by population. Ukraine is just slightly smaller than Spain. From an economic perspective, Russia is the 8th largest economy in the world. It ranks just behind Brazil and ahead of India. The Ukrainian economy is hardly larges. It ranks about 51st, but there is also location.


Ukraine’s capital Kiev, is 200km closer to Berlin than Rome. While not exactly in the heart of Europe, it is certainly part of one of the most important economic regions in the world. As part of Europe it also shares a great deal of its history. For close to four hundred years, Ukraine was either part of or influenced by Poland and Lithuania.


The proximity is reinforced by history. The Baltic republics and Finland were once part of Russia. All of Eastern Europe and a large part of Germany were controlled and at times occupied by Russian forces. Many citizens of the present EU were once citizens of either the Soviet Union or one of its satellite countries of the Warsaw Pact. The combination of proximity and a bit of shared history makes what happens in the Ukraine far more important to the EU than anything that goes on in Thailand or Syria.


The close connection would seem to indicate that both the Europeans and the Americans might be more inclined to do something to punish Russia, but what? This is the heart of the matter. A military option is definitely off the table, which leaves economic retaliation of some type. But Russia is Europe’s third largest trading partner. It provides 30% of Europe’s energy needs. Any economic sanctions would also hurt Europe, so they won’t be too harsh.


But if governments are impotent to punish Russia, markets are not. The Russian economy like other emerging markets, has been weakening. Russia’s actions brought uncertainty to any Russian investment. This was best illustrated by the 11% fall in its stock market on the day of invasion. It did subsequently rebound but only by 5%.


Even more damage has been done to Russia’s currency. The ruble has been dropping all year. The process accelerated in December with the announcement of tapering by the Federal Reserve. It is now down 20% in the past 12 months. The invasion didn’t help. It briefly dropped almost 3%. To protect the currency, the Russian central bank hiked interest rates from 5% to 7%.


The Russian economy is barely growing at a bit over 1%. Manufacturing has been contracting for the past six months and inflation is stuck at over 6%. The country is also in debt. Consumer lending has increased in Russia by about 40% over 2012, while credit card loans rose by close to 80%. Its companies’ foreign debt was $628.4 billion at the end of the first half of last year. This amount is equal to 30% of Russia’s economic output. It is close to their foreign debt at its peak in 2009. A certain percentage of that debt is undoubtedly in hard currency. Rising interest rates and falling currency is a recipe for default


Foreign investment in Russia will fall as risk is reassessed. Russia’s main export, natural gas, will get increased competition. According to the America Energy Information Agency, Europe’s recoverable reserves are on a par with America’s. The very real threat of Russian domination may be sufficient to overcome environmental concerns about fracking.


Finally it is not just the Russian economy that is in trouble. The Ukrainian economy is a well-known basket case. The fall of Turkey’s currency last month, caused a major market pull back. Things are hardly better and the political corruptions scandals around Prime Minister Ed Erdogan worsen. Russia is also Turkey’s one of the main trading partners, so a slowdown will hurt both countries to say nothing of contagion to other emerging markets.


In 1810, London financier Nathan Rothschild is supposed to have instructed investors to "buy on the cannons, sell on the trumpets". In other words buy when stocks plummet due to threats of violence and sell when the threat is extinguished. The concept has less of an impact today, but it really depends on whose cannons. Autocrats and despots are rarely concerned with economic impacts, but they are more likely to be far more devastating than almost all military actions.  One political risk investors cannot ignore.


(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first-hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and has spoken four languages.)


The Manual of Ideas by John Mihaljevic: Book Review

A range of value investing styles and opportunities

John Mihaljevic is the managing editor of The Manual of Ideas, a monthly journal for value-oriented investors. The popular investing newsletter is aimed at generating investment ideas and publishes interviews with numerous fund managers whose styles cover a range across areas of investing.

Mihaljevic, in his book titled The Manual of Ideas, aggregates the key takeaways from numerous interviews with fund managers and has created a guide to value investing. The book covers a range of value investing styles and opportunities: deep value, sum-of-the-parts value, jockey stocks, following super investors, small- and micro-cap stocks, special situations, equity stubs, and international equities.

If you are an avid reader on value investing and have already read other books on the subject, there’s only a marginal value addition to your knowledge. However, if you are new to stock investing, this would be a great book to gain insights into different proven investment approaches. Each investing category discussed has several dedicated works. Therefore, those who find a particular approach interesting, can do their research further.
Unfortunately, this book does not evaluate which method works best or to identify which strategy one should use, under what circumstances, and what would be the outcome. It offers basic knowledge, but you will have to dig deeper for a better understanding of which style to actually use and when. This book is more of a general overview of several approaches to investing rather than a detailed research on any one of them.

The book offers methods for deciding whether a company passed the right screen for the wrong reason, whether the financial statements are fudged, and discusses several other factors that may miss an investor’s eye. In the chapter on deep value, the author describes Benjamin Graham’s approach to ‘cigar butt’ investing. Like cigar butts, which may have a few puffs left in them, there may be stocks that have been discarded but still have some value left. This is what Graham called ‘net net’ stocks—stocks which were trading at a discount to their net current assets.

In the chapter on good and cheap stocks, Mihaljevic describes the concepts used by Joel Greenblatt to identify a company’s quality. Under this approach, the company should not only be cheap but should be backed by a high-quality business. (This is the approach adopted by Moneylife while picking stocks.) In another chapter, the author also talks about ‘jockey’ stocks; in other words, investing in companies with great management by reviewing their capital expansion plans and trends as well as their management compensation and incentives. The book discusses how to follow investors who have done well over time and achieve success by investing in the same companies as they do.

While large companies are well covered by analysts and institutional investors, Mihaljevic has dedicated an entire chapter on finding hidden gems among smaller-sized companies. However, most experienced investors would be aware of the risks in these stocks; finding a good bargain requires deeper digging. The book also covers investing in stocks by looking for value during special situations such as spin-offs, mergers or acquisition. On this topic, among the most interesting books is the one by Joel Greenblatt titled You Too Can Be a Stock Market Genius.

Finally, choosing an investment style is a matter of one’s own special needs and interests. This book will act as a good introduction.




3 years ago

Excellent review! Thank you Mr. Monteiro.

Zen Garden by Subroto Bagchi: Book Review

Some good profiles by Subroto Bagchi but many puff pieces

This book is a compilation of Subroto Bagchi’s long-running column about “sixty men and women I came in contact (who) left behind a sense of wisdom.” Bagchi shares these with us through this tome. He classifies his subjects under various categories; the category is mentioned in italics above the name. Some of the choices, and their categorisation, would seem strange. Determination—Ramesh Ramanathan ex-Citibanker and co-founder of Bengaluru-based NGO Janaagrha that works to change the quality of life in urban India, and Janalakshmi, an urban microfinance entity.

He also includes Nandan Nilekani in this category, because he “gave 1.2b Indians an identity.” Under Vision is Harish Hande, the winner of the Social Entrepreneurship Award of 2007 who believes that “subsidies are for the rich, sustainability is for the poor,” and Jimmy Wales, founder of Wikipedia whose passion for information arose out of an operation that saved his daughter’s life. Under Courage is GR Gopinath of Air Deccan who went bankrupt twice, and NS Narendra, owner of a fire-fighting company. There are others who are low-profile but well-known in their own domain like VG Siddhartha, son-in-law of former Karnataka chief minister SM Krishna, promoter of successful ventures such as Café Coffee Day.

Bagchi features Kiran-Mazumdar Shaw under Innovation; Dr Devi Shetty (Narayana Hrudayala), Dr Sharan Patil (Sparsh Hospital) and Dr Gulapalli N Rao (LV Prasad Eye Hospital) are placed under Corporate Leadership. He writes about Dalai Lama and Jaggi Vasudev, the BMW motorcycle-riding and golf playing guru, under Altruism.

A few stories are about sheer courage and fortitude. Like Anu Aga’s who anchored the family business (Thermax) after the sudden passing way of her husband Rohinton. A year later, her mother-in-law, a family pet and son Kurush (who died in a fatal road accident) all passed away within a fortnight of each other, giving her a lesson in life: “Pain is inevitable, suffering is optional.”

The story of Shashikant Shetty, the indomitable owner of a dive bar at a Mumbai suburb, is gripping. He survived a brutal attack in 2004 at the hands of two off-duty policemen who drank at his bar, necessitating 180 stitches and blood transfusions. While knocking on various doors for justice with bandages still on, he realised how the off-duty rampage by a criminalised force in uniform held the city to ransom.

In the introduction to the chapter on Vision, Bagchi quotes from an video-recorded talk of Peter Drucker, the father of modern management, with Peter Senge, where he pointed out that “the for-profit sector has much to learn from the not-for-profit sector than the other way round.” It is easier for a for-profit business to sustain itself because greed is a strong motivator.

Altruism is good but not always as potent as greed, to build a shared vision of the future of society in transition—a society that equates success with consumption and celebrates moving along at all costs. To create and sustain great businesses also requires the powers of vision, altruism and volunteerism; the ability to use technology as an ally, and the capacity to see problems as opportunities. Many of the cases Bagchi describes illustrate this.

These stories are interesting but, since Bagchi mostly says nice things about everybody, ignoring the warts, his book runs the risk of being seen as a collection of puff pieces. After all, the ‘unique identity’ project of Nandan Nilekani runs the risk of going down in history as the costliest and most irresponsible of public projects, especially now that Nilekani has decided to quit as head of the project and contest as a Congress candidate. Did his determination to press ahead with the project ignoring criticisms and challenges, only amount to pouring billions of dollars down the drain. Captain Gopinath is a model of courage but only with other people’s money—mainly of public sector banks, capitalised periodically with taxpayers’ money. The microfinance company of Ramesh Ramanathan is successful because of the government’s failure to create a fair and competitive lending system. Zen Garden is a good read. Bagchi describes a wide cross-section of achievers with great interest and passion. But it is rose-tinted.


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