By Julia Bushueva, strategist at Unicredit Securities
Last week’s decision by the Brazilian government to reintroduce a 2% tax on foreign investment in local stocks and bonds in order to prevent bubbles and cool down the market is likely to boost trading in Brazilian ADRs, we believe, but may divert cash to the Russian stock market, as well.
The two markets are among the best performers YTD (up over 100%), but Russia looks much cheaper than Brazil. We calculate that the RTS Index trades at a 2009E P/E of 10.2X and a 2010E P/E of 8.3X, which is about 40% less than the Brazilian average (30% using Thomson ONE data, 21% using Bloomberg).
The gap is wide in historical comparison. Russia traded roughly in line with Brazil from 2002 until the current financial downturn began. The average Russian discount to the Brazilian market for the last decade is 19%, well below the current level.
The discount remains even if we use Brazilian weights. Some believe that Russia’s discount to the Brazilian market on P/E may be explained by the RTS’ is heavy overweighting in oil and gas names (57%), while in Brazil’s Bovespa Index the heaviest sectors are metals and mining and banking, which traditionally trade with higher P/E multiples than oils.
Nevertheless, our calculations suggest that even after reweighting the RTS based on sectoral shares in the Bovespa, the Russian market trades at a discount of about 30% to its closest BRIC peer.
Russia’s GDP is weaker, but industrial output is down roughly as much as Brazil’s, and Russia’s earnings profile looks better. We believe the market may be missing the fact that, while on GDP Russia looks weaker (down 11% yoy in 1H09 vs. 1.1%, respectively) and the IMF forecasts a drop of 6.5% in 2009E and an increase of 1.5% in 2010E for Russia vs. a drop of 1.3% and a rise of 2.5% for Brazil, the countries’ industrial output profiles look about the same, as the charts below indicate.
Moreover, if we look at the earnings growth profiles of the companies in the RTS and the Bovespa, Russia looks stronger, with projected cumulative earnings growth in 2010E of 39% yoy vs. 24% for Brazil.
We thus believe that Russia’s relative cheapness may attract funds if investors start reallocating their positions due to the reintroduction of the tax, with commodity producers among the primary beneficiaries. We recommend Gazprom, Novatek, Uralkali Norilsk Nickel and Sistema.
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