News that the EU and the UK had agreed a 21-month Brexit transition deal propelled sterling higher yesterday but some gains were subsequently lost as doubts crept in. Sterling faces a difficult week between today's CPI, tomorrow's BoE meeting and the EU summit in Brussels on Thursday and Friday.
Article / 12 September 2016 at 10:07 GMT

Why shorting Russian equities makes sense

Russia oil and gas expert
United Kingdom
  • Russia's MSCI index up 26.7% year-to-date
  • Price movements closely correlated to oil rise
  • Total inflows since June to Russian equities at $577 million
  • Sharp correction could be on the way
  • Oil price remains the main driver of equities
 The show of wealth in Russia can sometimes be a little deceptive. Photo: iStock

By Nadia Kazakova

Even after a bit of a selloff last Friday, the return on Russian indices is still notable. The MSCI Russia Index was up 26.7% year-to-date as of close on September 9, only a touch below the return on 1-month Brent futures (+31.3% std). 

Last week, the performance has also been impressive. MSCI Russia Index was up 2.33% week-on-week and it hit its annual high on September 8. It outperformed the MSCI EM Index, Brent futures and rouble. 

Relative and absolute performance of MSCI Indices, RUB:USD FX rate and Brent futures

The reasons for the surge (most of it in August) might also be the reasons for a sharp adjustment. There has been a steady inflow of the money into Russia funds, with over $200 million inflows in August alone plus another $84.1 million over the first week of September. 

It has, unusually, taken cumulative inflows into Russia funds into positive territory for the year (+$172 million), the highest level seen this year. Since the start of June, the total inflows into Russian equity funds has been over $577 million. 

Cumulative fund flows into Russia equity funds and MSCI Russia Index performance, ytd

The inevitable profit-taking is bound to pull equities down, at least in the short-term. Combined with a fall in the oil price, set against a backdrop of less accommodative central banks, it could even topple the market. 

The oil price remain the main driver for Russian equities. The weekly fund flows tend to follow weekly moves in the oil prices. It also seems that the equity investors are increasingly convinced that they can more confidently price in the oil at around current levels (Brent at around $50/barrel) into their Russian equity valuations.

Weekly fund flows and weekly change in 1-month Brent futures and MSCI Russia Index

There is nothing wrong with this assumption. However, the risk that it might all go slightly pear shaped (both for the oil price and global equities) might have been underestimated. As a result, equity prices would need to adjust to take into account more negative scenarios.

It might take some days or some weeks to unravel, but there seems to be a reasonable case for a short position in the Russian equities. 

 Russian equities are inherently bound to the price of oil. Photo: iStock

— Edited by Martin O'Rourke

Nadia Kazakova is an oil and gas expert on Russia
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