In Part 2 of this column on the parliamentary elections in Russia, Iskyan explores what a shift in the political climate means for the upcoming elections, and the market for Russian equities. Read Part 1.
MOSCOW -- Besides being a key step in the peaceful passage of power to a new head of state next July, the
elections may create a bit more harmony in relations between the president and the Duma, which have been stormy even in the best of times.
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The Russian constitution, drafted amid memories of the iron grip Soviet leaders had over the levers of power, grants the president near-dictatorial powers at the expense of the Duma. But a reconfiguration of the politics of power in the Duma could help tone down the acrimonious relationship between the two.
This will probably come about in part because the
-- which through alliances with smaller parties has controlled 47% of the 450-person Duma -- is likely to see its influence wane in the upcoming elections. Although the Communist Party itself will probably see an increase in its relative share of Duma seats, some of its former allies have already indicated that they will be jumping ship.
In addition, the noisiest and most obstructionist forces in the parliament -- such as the misnamed
Liberal Democratic Party of Russia
-- will likely see their influence wane dramatically, if not evaporate altogether, if they are unable to poll the required 5% minimum of all voters. (Russia's parliamentary system calls for half of all Duma seats to be voted in via party lists, which require a party to win more than a 5% minimum voter threshold, in order for any names on the party list to win seats. The other half of the Duma is elected through single member districts, which are a forum for individuals who are not necessarily affiliated with a national party structure to be voted in based on the total popular vote.)
A byproduct of the dilution of the Communists' influence in the Duma is a shift of the body toward the center of the political spectrum. The acquiescence of the Communists won't necessarily be required for every presidential effort that requires Duma approval. A number of parties will likely form a strong centrist plurality, or a small majority, in the Duma. They include Grigory Yavlinsky's
, a broad coalition of regional and Moscow politicians allied under Moscow mayor
and former prime minister
party, which over the past few years has been allied with the Communists; the
party, the Kremlin's vehicle to maintain some influence in the Duma, and which Putin recently endorsed; and a few other smaller parties.
Although the Communists may lose some of their obstructionist tendencies once Yeltsin departs (even though he has been a Communist for most of his adult life, Yeltsin and the Communist Party share a mutual abhorrence), the emergence of a more centrist bloc should work greater wonders for the legislative process. Attempts at reform from the president will likely be given a better hearing than they have received over the past several years.
The Russian equity market may continue to be one of the world's strongest bourses if the thesis of decreased political risk following both parliamentary and presidential elections holds true, and the stage is set for a more favorable reception to reform in the Duma. But its present returns come on the back of the catastrophic 93% collapse from the market's peak in October 1997, to its trough in 1998. An investor who bought in at the peak is still down 78%. Even if you'd only bought halfway up the spectacular pre-1997 Russian bull run, you'd still be down 55%.
For gamblers looking to punt on a perception of a more stable Russia, the safest way to do it is through one of a handful of funds that focus on Russia, like the closed-end
Templeton Russia Fund
, or the open-end
Lexington Troika Dialog Russia Fund. Otherwise, Russia's oil companies offer by far the closest thing that passes for fundamental value on the Russian market. The devaluation of the ruble has meant that operating expenses (which are largely ruble-denominated) have contracted more than revenue (much of which is dollar-denominated) -- leading to massive margin expansion.
Two of Russia's best-managed oil companies,
( SGUZY) and
, trade at estimated 1999 price-to-earnings ratios of 4 and 6, respectively. Admittedly, that's using Russian accounting standards, which need to be taken with a grain of salt. But the discount to international comparables, which trade at an average 1999 estimated P/E of 24, makes up for a lot of the risk.
The asset valuation discounts of Russian producers are similarly high: Investors pay 61 cents per barrel of reserves for LUKoil (audited to international standards), or 66 cents for Surgutneftegas, compared with an average of nearly $10 for the typical international integrated oil company. LUKoil has announced that it will launch a Level-3 ADR next year, which should add to its transparency. (We have buy recommendations outstanding on both of these issues, and have performed no recent underwriting for them.)
Sure, Russian assets still deserve a lot of the discount that the market assigns to them. And volatility is the very essence of the Russian equity market. But if investors re-rate Russian risk, and a wider range of investors begin to dip their toes into Russian securities, the country's oil companies are likely to boom.
Kim Iskyan is an equity strategist at Moscow-based brokerage firm and investment bank Renaissance Capital. The firm's analysts rate the shares of LUKoil buy, and have no underwriting relationship, and those of Surgutneftegaz buy, no underwriting; Iskyan began his career at the emerging markets trading desk of Oppenheimer & Co. At the time of publication, he held no positions in any of the companies mentioned in this column, though positions can change at any time. While he cannot provide investment advice or recommendations, he invites you to comment on his column at