Russian GDP performance in October reveals less than desirable tendencies

Today’s edition of Kommersant writes about the report published by the Russian Ministry of Economy, indicating a lukewarm performance of Russia’s GDP in October. Seasonally adjusted GDP growth in October was close to zero (0.1 percent), down from a 0.4 percent growth in September.

Industrial output in October declined by 0.7 percent, with only two of its components registering growth: chemical industry and machinery manufacturing. In addition to the decline in industrial output, the report noted a negative tendency in consumer spending: with the reduction of average real income by 1.3 percent in October, the retail sector discontinued its growth. The report attributes this to economic uncertainty and expectation of the second wave of the economic crisis, supporting its conclusions with the consumer confidence data provided by the Russian Statistical Bureau. Construction and agriculture balanced the negative tendencies in the rest of the economy, with construction rebounding from a September slump of 1.3 percent to a 3.1 percent growth in October.

The Russian balance of trade in October was USD 13.1 billion, significantly lower than USD 17.1 billion registered in September. On top of that, the increase in Russian exports during the first nine months of 2012 was supported by growing prices, rather than increased export volumes (which actually fell by 0.3 percent during the period). On the other hand, the growth of imports was a consequence of growing import volumes (4.8 percent during the first nine months of 2012), while the prices of imported products actually fell by 3.4 percent.

Capital investments provided a significant support to the GDP performance in October, growing by as much as 14.4 percent compared to September. However, this growth was realized against the revised figures for September, which indicated a much lower growth compared to August than previously expected (0.6 percent instead of 8.4 percent).

 

Longer working hours for the Moscow Exchange

Gazeta.ru reports that the Moscow Exchange prepares to extend its evening trading sessions to match their closing to that of the Chicago Mercantile Exchange. According to Gazeta.ru, the Moscow Exchange already decided to extend the evening session of its FORTS derivatives market to 1:15 AM Moscow Standard Time during the winter season and to 0:15 AM during the summer season. Regular trading at the Moscow Exchange currently takes place between 10:00 AM and 6:45 PM, with an additional session for derivatives listed on the FORTS market from 7:00 PM to 11:50 PM.

The Moscow Exchange justifies the move with the necessity to synchronize its trading sessions with the U.S. markets – more specifically, the Chicago Mercantile Exchange – and adjust its working hours to compensate for Russia’s decision not to change the clock to winter time. The consequence of the latter is that the FORTS market currently closes one hour before the CME, depriving the traders of the opportunity to adjust their trades in accordance with the developments at the CME. The proposed extension of the FORTS evening trading session will require some IT upgrades and should be completed by the second quarter of 2013.

The Moscow Exchange also considers shortening its regular trading session from 6:45 PM to 4:00 PM in order to leave more time for the evening session, which would then fully match the schedule of the CME. The exchange declined to comment on this option before it finishes consulting with the traders. That said, some of the brokers are complaining about the idea to extend the evening trading session, as it will increase their costs of personnel; others welcome the move, expecting increased liquidity and better synchronization of trading times of stock exchanges across the country.

 

Russian business statistics from a different angle

Online daily magazine Slon.ru published the first in the series of articles on realities of doing business in Russia. It begins by establishing that the ownership issues are one of the main obstacles discouraging the inflow of foreign capital into the Russian economy, comparable to that of corruption. And while there are indications that the fight against corruption might be happening after all, nobody seems to address the need to ensure the protection of private ownership in the country. However, the increase of government role in the economy seems to be making the problem disappear by itself. According to Slon.ru, the Gaidar Institute and BNP Paribas recently estimated that the government already accounts for 50 percent of the country’s economy, noting that the percentage has noticeably increased during the last couple of years.

Therefore, the first in the series of articles about how the Russian economy really works tries to answer how big is the private sector in Russia? Media monitoring agency Integrum (http://www.integrum.ru/) sourced its information from the national business registry and the Russian Statistical Bureau to come up with a figure of 8.45 million legal entities registered in Russia, of which 5.05 million are limited liability companies, 223 thousand are joint-stock companies, and 55.4 thousand are public corporations. The remaining 3.1 million entities represent various types of civil organizations, unions, government institutions, representative offices, etc. In addition to the legal entities, there are more than 5 million individual entrepreneurs in the country.

The total number of companies seems quite high – 5.34 million, or one per each 27 inhabitants of the country. If the figures are to be taken at face value, there would be one business entity (legal entity or individual entrepreneur) per each 13-14 people in the country. However, the authors remind us that there are lies, damned lies and statistics, and that the figures require some adjustments. For instance, in 2009 the Russian Chamber of Commerce estimated that out of 4 million limited liability companies registered at the time, only 1.5 million can be considered active. As the current number of registered LLCs exceeds 5 million, one can presume that approximately 2 million of them are active. And it should not be forgotten that half of their output comes from the LLCs that are directly or indirectly controlled by the government.

Inactive companies can sometimes be recognized by their uninspired names: according to the national registry, there are as many as 3000 “Absolutes”, 1500 “Investstroys”, hundreds of “Exims” and “Impexs”, numerous “Trades”, “Torgs”, etc. Dead companies represent another category of inactive business entities. Those are the companies that were simply abandoned, as it was not advantageous to liquidate them. Some of them were used exclusively for the purpose of avoiding taxes, just like some of the individual entrepreneurs were also registered only to extract money from affiliated companies. The authors conclude that the number of active business entities in Russia is not nearly as high as can be seen from the registries. The next topic in the series of articles on doing business in Russia will cover the ways in which owners hide their ownership in businesses.

Own and operate a Moscow mansion for 1 ruble

Today’s edition of Vedomosti writes about a proposal by the Russian Ministry of Culture to lease and/or sell real estate categorized as historical heritage for a symbolic price and a commitment from the lesee or purchaser to finance its full reconstruction. There are concerns that the scheme will be tested on selected Moscow mansions that are currently not in need of reconstruction.

Already in July 2012, the new Minister of Culture Vladimir Medinskiy suggested three models for reconstruction of historic and cultural objects in the Russian Federation: a 49-year lease for 1 ruble per square meter, with a requirement to fully reconstruct the real estate within four years; sale of real estate for a symbolic price (presumably through an auction with a starting price of 1 ruble), with the requirement to fully reconstruct the real estate in question before registering ownership; lastly, transfering all of the real estate categorized as historic and/or cultural heritage to the Agency for Management of Historic and Cultural Heritage with the Ministry of Culture (http://www.auipik.ru/). The First Vice-President of the Government Igor Shuvalov approved the idea and asked the Ministry of Culture and the Federal Agency for Asset Management to put together a list of real estate to be leased and sold. With all involved agencies being in favor of the scheme, there is only one administrative obstacle in the way – the Parliament needs to remove existing restrictions for the privatization of cultural heritage objects, which could take up to a year. In the meanwhile, the Agency for Management of Historic and Cultural Heritage already put together a wish list containing objects it would like to manage. According to the article, this is where Russian peculiarities started to appear: although there are thousands of such objects in Russia, the Agency listed no more than 111 buildings in Moscow, some of which are in decent condition. Vedomosti features photographs of some of the real estate from the list, which apparently includes the famous shopping center GUM, located on the Red Square.

A real estate expert from Jones Lang LaSalle Tatyana Klyuchinskaya stated that the demand for retail locations in GUM is extremely high – she estimates that the minimum rental price per square meter in GUM is no less than USD 1,500 per year. The center leases around 30.000 square meters of retail space, which generated revenues of USD 63 million for the managing company in 2011. Consequently, the average annual rental price per square meter in 2011 was USD 2.129. The list contains other similar examples, such as the business-center „Goncharnaya“ (metro station Taganskaya, 30 minutes of walking distance from the Red Square), which currently rents office space for approximately USD 700 per square meter per year, plus VAT and maintenance.

Vedomosti were unable to confirm the exact contents of the list, as no government office or agency was available for comments. The authors did, however, check the performance of the Agency for Management of Historic and Cultural Heritage and found it wanting – of between 2344 and 2381 (not clear how many exactly) objects of historical and cultural importance that it manages, the Agency leased only 75 of them, of which 16 are located in Moscow. Some buildings seem to be rented by legal entities without the appropriate contract, while others were rented at well below the prevailing market rate. According to the authors, the Agency generated an average revenue of 350-400 million rubles per year during the last three years, but it spent only 477 million rubles on reconstruction during the last five years.

Russian Government to accept the transportation infrastructure development plan

Today’s Russian daily Gazeta reports that the Russian Government plans to invest as much as 7.3 trillion rubles (USD 234 billion) into the country’s transport infrastructure in the period 2013-2020. If the Government accepts the investment program prepared by the Ministry of Transportation, most of the allocated sum will be used for the construction and repair of the road infrastructure. The amount allocated by the Government represents a larger part of the total planned investment of 12.5 trillion rubles (USD 401 billion), with the balance of funding coming from the Federal Road Fund and non-budgetary sources. Although the article talks about the program covering the period up to 2020, it should be noted that the program available on the website of the Ministry of Transportation covers the period to 2030 and lists different figures.

According to Gazeta.ru, the Government will gradually increase transportation infrastructure financing in the mentioned period, starting from 661 billion rubles (USD 21 billion) in 2013 and ending with 1.4 trillion rubles (USD 45 billion) in 2020. In the mentioned period, the Ministry of Transportation plans to spend 4.7 trillion rubles (USD 150 billion) on capital investments, with another 2.6 trillion rubles (USD 83 billion) allocated for maintenance and 1.5 trillion rubles (USD 48 billion) going to research and development. The Program takes into consideration the necessity to develop transportation infrastructure related to the Youth Olympics in Kazan in 2014 and the Winter Olympic Games in Sochi in 2014, but does not include projects related to the 2018 FIFA World Cup that is to take place in Russia, as these have not been finished yet, nor any projects related to the planned relocation of Government offices from the center of Moscow.

The Program pays special attention to road construction and maintenance, for which it plans to allocate 1.96 trillion rubles (USD 63 billion), of which 137 billion rubles (USD 4.4 billion) will be spent on the development of highways on the basis of public-private partnership. As a consequence, the length of federal routes should increase by 7.5 thousand kilometers, with another 2.8 thousand kilometers of regional roads. The largest gap between the financing needs and actual commitments will be felt in the railway sector, for which the Government plans to spend 293 billion rubles (USD 9.4 billion), while the Russian Railways’ Institute for Transport Development estimated that the construction of a widespread high-speed railway network requires 4.4 trillion rubles (USD 141 billion) by 2030. However, there is a chance that this gap will be overcome after 2020, as the Program recognizes this need and proposes to fund some of the necessary planning. In the meanwhile, Russian Railways will rely on own financing for the planned construction of the high-speed railroad between Moscow and Tver regions (180 kilometers, estimated cost – 185.6 billion rubles, or USD 6 billion). The Ministry of Transportation estimates that by 2020 each Russian citizen will travel an average of 1.2 thousand kilometers by railroad every year, which will represent a 20 percent increase compared to 2012. Civil aviation infrastructure will receive 145 billion rubles (USD 4.7 billion) from the budget, primarily to support the development of international hubs (Sheremetyevo, Vnukovo and Domodedovo in Moscow and Pulkovo in St. Petersburg). The program calls for the reconstruction of 96 airstrips by 2020 and projects that the number of passengers on regional flights will double to 9.65 million in the same period. The Government plans to provide subsidies for the procurement of new aircrafts to Russian airline operators, which should enable them to purchase up to 470 new aircrafts.

Other news:

Russian news agency Interfax quotes a report by Emerging Portfolio Fund Research agency stating that the outflow of capital from investment funds active in Russia increased to USD 101 million in the period from November 15-21, more than doubling from USD 48 million in the previous week. Thus the outflow continues for the seventh consequtive week.

Russian companies at a discount

Russian business daily Vedomosti looked at how foreign investors value publicly traded Russian companies and found that they trade at a noticeable discount compared to their peers in China, Turkey, Brasil, South Africa and some other countries. Experts were quoted saying that the discount amounts to as much as 50 percent, half of which is attributable to a traditionally low price/earnings ratio for oil companies, while the other half constitutes a risk discount. Fund managers and investors find that the Russian stock valuations have remained more or less the same during the past year and that the perception of country political risks has not changed for the better. All this in spite of the factors that should have provided a positive impulse on the market: the elections are over, oil prices remain high, and consumer spending is growing at a fast pace. Furthermore, some analysts expect that investors might reduce the share of Russian stocks in their portfolios in the near future.

As the overall economy and profitability of Russian companies are growing, perceived political risk seems to be the only explanation for discounts at which Russian stocks are valued. The fact that some of the investors declined to comment on the subject as they were afraid it might hurt their business in Russia testifies to the presence of an intangible effect that creates tension. Quantitative easing by the U.S. Federal Reserve in September provided investment funds with excess liquidity that flowed into the developing markets – that is, all of them except Russia, which registered an outflow of USD 50 million last week alone (compared to an inflow of USD 589 million in other BRIC countries). JP Morgan’s official was quoted saying that the value of the Russian stock exchange index MICEX (consisting of 30 relevant stocks) has not changed since the beginning of the year, while average daily volumes decreased by 40 percent, from USD 2 billion to USD 1.2 billion.

Further analysis revealed that the investors are most concerned about the government’s perceived intrusion in the private sector, its disregard for minority shareholders’ interests, delayed reforms and privatization, and uncertainties regarding tax and tariff policies in the oil and gas sector. Russian Government recently decided that the oil giant TNK-BP will not pay any dividends after it was taken over by state-owned Rosneft, which made the minority shareholders unhappy and concerned about future dividend policies of state-owned companies in general. According to some analysts, the Government could easily create a positive momentum by mandating that all state-owned companies pay at least 25 percent of their net profit as dividends. As things currently stand, positive performances of private companies with high dividend yields fail to compensate for the above listed concerns.

The search for the ideal mortgage rate continues

According to today’s edition of Kommersant, the Russian Agency for Housing Mortgage Lending will increase its lowest mortgage rate in 2013 by approximately one percent. The rate which was set in accordance with the Presidential requirement is currently calculated by adding 2.2 percent to the inflation rate. The Agency stated that the rate hike is motivated by increased funding costs.

Consequently, the mortgage rate for the Agency’s cheapest lending products will increase from 8.3 percent to 9.2 percent p.a. and the Agency will lose the title of the most favorable lender. To add insult to injury, the Agency will thus disregard Vladimir Putin’s requirement to lower the mortgage rate to 2.2 percent above the inflation. However, there is still time, as the Russian President asked that this adjustment take place by 2018. It is not likely that the Agency’s move to increase its mortgage rate will cause a major shock in the market, as it provided only 6.2 percent of the total mortgage lending volume in Russia during the first nine months of 2012 – 32,396 loans with a volume of 43.3 billion roubles (USD 1.38 billion). Sberbank is the undisputed market leader with 23.3 percent of the total mortgage lending volume in the same period, or 163 billion roubles (USD 5.2 billion).

Some of the Agency’s products will become even more expensive: while the lowest mortgage rate will be calculated by adding 3.1 percent (previously 2.2 percent) to the prevailing inflation rate, the highest rate will be set as much as 8.45 percent (previously 6.7 percent) above the inflation. The spread varies in accordance with maturity, down payment and other conditions. For example, the mortgage rate for the Agency’s “Standard” product, accounting for well above 50 percent of its total lending volume, will increase from 12.8 percent to 14.55 percent p.a. According to the Russian Central Bank, the average weighted mortgage rate in Russia during the first nine months of 2012 was 12.3 percent p.a.

Experts recognize that the Agency postponed the unpopular move as long as it was possible and finally had to adjust its business to the market conditions. Sberbank, the largest market player, also increased its mortgage lending rates by 0.5 percent in average. In October alone, twelve other banks followed suit. Coupled with higher financing costs, high demand for mortgage lending could bring about further mortgage rate increases.