Equities and the ruble will open weaker this morning after global markets, commodity prices and developing market currencies fell hard as a reaction to the German ban on certain financial instruments. The double-whammy for Russian assets is again the combination of global risk aversion and weaker oil.

We are due a trading bounce in oil, the euro and equities very soon – and that should be quite sharp - but, beyond that volatility the outlook over the summer is still very negative as the level of nervousness will remain high.

Moscow’s bourses ended with gains yesterday as the Dow Industrials Index traded up 0.3%. But, by the close the Dow had lost 1.1% and the S&P 500 lost 1.4%. The 4.0% loss in Mechel’s ADR in New York better reflects investor’s attitude than the 4.1% gain in Evraz’s GDR in London earlier in the day. RusAl shares are off 2.4% in Hong Kong today and are again 30% below the late January IPO price. Shares in the gold and silver sectors may be the only relative performance haven in the expected tough market conditions this morning.

Asian markets have followed the trend in the US and are mainly trading lower this morning. South Korea’s assertion that North Korea sunk it’s warship only adds to regional nervousness. Developing market currencies in the region are all trading lower. The dollar-euro rate is currently at $1.2205 p/bbl (it traded at $1.2378 as MICEX closed yesterday). The dollar yen is at 91.97 and the dollar-sterling is $1.43.

Brent for July delivery is currently trading at $73.97 p/bbl while WTI for June delivery is at $68.80 p/bbl. That contract expires this week and the July WTI contract is trading closer to Brent. Urals is at $69.66 p/bbl. Copper and most industrial metals are also lower this morning.

The latest event to hit investor sentiment is the move by German regulators to ban naked short selling in the equity of some financial institutions, credit default swaps and euro area government bonds. In itself, no big deal (the SEC has a similar ban in place) but the timing is truly awful. After the recent events in the eurozone debt market, the main question in the investment industry this morning is “what do the German regulators know/fear that we don’t?” In reality, the timing of the move is more to do with the vote in the German parliament today to approve German’s participation in the recently announced eurozone debt bailout deal. The failure of the parliament to approve that deal would be catastrophic.

This move is guaranteed to pile pressure on the euro and already a consensus is forming on a dollar-euro target of $1.10 this summer, albeit a technical trading bounce is probably not far off. Most traders will likely use that as an opportunity to add shorts. Whether that move, i.e. towards $1.10, or not, the near term macro direction is for euro weakness, a steady drift to haven assets, such as dollar, yen, gold and silver, and continued pressure on commodities and so-called risk assets.

The major (global) economic news today will come via the US CPI report (+0.1% MoM is expected) and an update of construction spending in the eurozone. The Fed will publish the minutes of the last FOMC meeting, the main interest in which will be to see if there is any evidence of a shift towards higher interest rates in the autumn. The weekly oil inventory report will be published by the US Energy Dept. Traders hope to hear that stored volumes in Cushing are declining as that will then allow for the price of WTI to rally relative to Brent.

In Russia, the April industrial production report is expected today (it was scheduled for yesterday or today) and will give the first indication of 2nd Qtr economic activity. Last week’s 1st Qtr GDP report was weaker than had been expected but 2nd Qtr is usually much stronger in Russia. Consensus is for 7.3% YoY growth. The weekly CPI report is also due and may again reveal another week of 0.1%, or lower, gains. The weaker euro helps as does the record warmer weather in western Russia.

Yesterday’s PPI number in Russia was higher than expected. The MoM rate was 3.2%, bringing the year to date increase to 6.0%. It is one of the reasons why we believe that the current CPI rate (+3.6% YTD) is unsustainably low and will rise later this year. Higher metal and oil prices were mainly responsible for the gain.


Sechin’s Very Interesting Comments

New oil tax proposals by year-end. Igor Sechin, Deputy Prime Minister and Chairman of Rosneft, said this afternoon that the government will submit new oil tax proposals to the Prime Minister by the year-end. The oil industry, in particular, Rosneft, has been battling with the Finance Ministry for a significant reduction in its tax bill to help fund capex. So far, the Finance Ministry has prevailed with its argument that the government needs the revenue to fund investment into infrastructure, new industries, SMEs, etc. If investors believe that the oil companies may get the PM’s support for a tax cut in 2011 then valuations will rise. Too early to say how likely that is but any new optimism may spark some speculative price gains. This is at least one of the reasons for the 3.8% price gain in Rosneft (ROSN LI) today.

State may sell Rosneft equity. Another factor in how Rosneft’s share, and those of the other state companies, may perform comes with Sechin’s comment that the sale of shares in Rosneft (and in INTER RAO, over which he is also Chairman) will “depend on market conditions”. The clear implication being that the debate in government over whether to sell more shares is now resolved and that the sale may go ahead when markets improve. That ties in with a statement made earlier in the day by the head of the Union of Industrialists in Russia. He said that the government should press ahead with selling surplus state equity holdings to fund the budget deficit. Cutting the state’s direct involvement in the economy is also a major priority for President Medvedev. Up to now, however, there was no indication that the government has agreed the strategy for for selling additional equity in the major listed state enterprises. We may now see this as a big part of the state’s privatization programme in 2011.

State could earn $33 bln. If the state were to cut its equity in Rosneft back to a 50%+1 stake (as it has in Gazprom) then it would generate $19.6 bln from selling the surplus equity. If the state were to do the same with Sberbank, VTB and Federal Grid, then the total generated (at the current market value of each company) would be $33.4 bln.

Hong Kong is an option. If this were to go ahead then the equity issuance could, at least in part, form part of a secondary placing in Hong Kong. Rosneft has the Asia credentials with the deal to supply China with oil as part of the “oil for debt” deal. It is thought that the government is very keen to boost its Asia credentials ahead of the ASEAN Forum to be held in Vladivostok in 2012. A listing of Rosneft shares in Asia would make sense in that regard. Given the scarcity of major oil shares listed in Asian bourses, the demand from regional directors would likely be high.

But, specter of YUKOS refuses to go away. Mikhail Khodorkovsky started a hunger strike today and that is already generating unfavorable headlines about Russia around the world. The action does serve to remind that the YUKOS factor is still a part of the perception of investment risk in Russia. Existing investors discount the issue but as the government pushes ahead with the “modernization” programme it will need to attract in an increasing number of investors into industries outside of natural resources. Investors in, e.g. oil and mining industries, are very risk tolerant (you don’t find oil in Switzerland) while investors in other industries are more sensitive to investment risks. The Strasburg Human Rights court is currently considering the $98 bln claim that ex YUKOS shareholders have been pursuing against Russia since 2004 and may make a ruling this summer. That will generate a big headline for sure.

New oil tax proposals by year-end. Igor Sechin, Deputy Prime Minister and Chairman of Rosneft, said this afternoon that the government will submit new oil tax proposals to the Prime Minister by the year-end. The oil industry, in particular, Rosneft, has been battling with the Finance Ministry for a significant reduction in its tax bill to help fund capex. So far, the Finance Ministry has prevailed with its argument that the government needs the revenue to fund investment into infrastructure, new industries, SMEs, etc. If investors believe that the oil companies may get the PM’s support for a tax cut in 2011 then valuations will rise. Too early to say how likely that is but any new optimism may spark some speculative price gains. This is at least one of the reasons for the 3.8% price gain in Rosneft (ROSN LI) today.

State may sell Rosneft equity. Another factor in how Rosneft’s share, and those of the other state companies, may perform comes with Sechin’s comment that the sale of shares in Rosneft (and in INTER RAO, over which he is also Chairman) will “depend on market conditions”. The clear implication being that the debate in government over whether to sell more shares is now resolved and that the sale may go ahead when markets improve. That ties in with a statement made earlier in the day by the head of the Union of Industrialists in Russia. He said that the government should press ahead with selling surplus state equity holdings to fund the budget deficit. Cutting the state’s direct involvement in the economy is also a major priority for President Medvedev. Up to now, however, there was no indication that the government has agreed the strategy for for selling additional equity in the major listed state enterprises. We may now see this as a big part of the state’s privatization programme in 2011.

State could earn $33 bln. If the state were to cut its equity in Rosneft back to a 50%+1 stake (as it has in Gazprom) then it would generate $19.6 bln from selling the surplus equity. If the state were to do the same with Sberbank, VTB and Federal Grid, then the total generated (at the current market value of each company) would be $33.4 bln.

Hong Kong is an option. If this were to go ahead then the equity issuance could, at least in part, form part of a secondary placing in Hong Kong. Rosneft has the Asia credentials with the deal to supply China with oil as part of the “oil for debt” deal. It is thought that the government is very keen to boost its Asia credentials ahead of the ASEAN Forum to be held in Vladivostok in 2012. A listing of Rosneft shares in Asia would make sense in that regard. Given the scarcity of major oil shares listed in Asian bourses, the demand from regional directors would likely be high.

But, specter of YUKOS refuses to go away. Mikhail Khodorkovsky started a hunger strike today and that is already generating unfavorable headlines about Russia around the world. The action does serve to remind that the YUKOS factor is still a part of the perception of investment risk in Russia. Existing investors discount the issue but as the government pushes ahead with the “modernization” programme it will need to attract in an increasing number of investors into industries outside of natural resources. Investors in, e.g. oil and mining industries, are very risk tolerant (you don’t find oil in Switzerland) while investors in other industries are more sensitive to investment risks. The Strasburg Human Rights court is currently considering the $98 bln claim that ex YUKOS shareholders have been pursuing against Russia since 2004 and may make a ruling this summer. That will generate a big headline for sure.

Having partied in the euphoria of the previous weekend’s $1 trillion bailout deal, markets ended last week with a considerable hangover and facing up to the emerging reality of the potential negative consequences of the deal. Traders believe that there is a credible threat to the integrity of the euro and, whether eventually proven valid or not, that creates a very negative backdrop for all markets through the summer months. The major worry is that the contagion from Europe’s debt problems and currency uncertainty may start to undermine the still fragile economic growth in the US/EU and may have consequences for growth in Asia.

Against the eurozone and growth uncertainties, volatility is expected to continue in all markets. Still, investors have learned neither to panic sell in bad periods nor to be excessively exuberant in rallies. For most, the strategy of the few months will be to create a shopping list of stocks that they want to hold in the autumn, setting price limits and picking up those stocks when the opportunity is presented.

The risk to that strategy is that the $2 bln of redemptions reported by emerging market funds last week may be extended as retail investors become nervous. Over $75 bln of new investments were placed into emerging market funds last year so if some of that reverses then portfolio managers will be forced sellers. The market action of the next one to two weeks will be critical for that scenario.

Russia funds ended a twelve week stretch of positive flows with a net redemption of $203 mln in the week to Wednesday May 12th.  That, however, compares favourably with the total redemption of $530 mln from China focused funds and $248 mln from Brazil funds.

The continuing fallout from the eurozone debt problems hit all markets hard on Friday and brought the price of oil and other industrial metals/minerals lower. As a result, Russia’s markets, and the ruble, face another very uncertain start to the week Equity prices, especially of stocks in global economic themes and those more sensitive to the currency, are likely to be again very volatile.

A table showing where the GDR/ADRs are trading relative to April highs is at the end of this note.

Note: The RTS exchange extends its trading hours from today. The session will start at 10.00 am (Moscow time) and will close at 6.45pm.

As last week ended, the main theme in all global currency markets was a flight to safety, specifically to the US dollar and the yen and away from the euro. That also undermined the case for high-yielding currencies in economies that are dependent on global economic recovery. The euro is set for a very rocky summer as traders increase bets that neither the political or economic support is strong enough to allow the currency survive. Whether that proves correct or not, traders sense an opportunity to make money by betting on a strong dollar and weak euro over the medium term.

The ruble, although down 0.25% on Friday, bounced 1.4% against the dollar last week to close at 30.171. Against the euro the ruble gained 3.2% to 37.728. Year to date, the ruble is again flat against the dollar and is up 13.1% against the euro. The weaker euro helps Russia’s efforts to keep inflation low as over 50% of imports, including a majority of food imports, are priced in euros. It does, of course, hurt the competitiveness of manufactured exports to Europe and the ability of domestic manufacturers to compete at home, but currently that is not a significant percentage of the economy.

While a generally better than expected 1st Qtr earnings season is winding down in the US, it is picking up pace in Russia. Rosneft will publish its numbers today (see our preview note published Thursday) and Vozrozhdenie Bank will publish on Tuesday.

The April industrial production report is also expected this week, on Tuesday or Wednesday, and that is even more keenly awaited after a disappointing 1st Qtr GDP update late last week. The Federal Statistics Service reported 1st Qtr GDP growth of 2.9% while consensus forecast 4.8% growth. The deputy Economy Minister also said that, on a seasonally adjusted basis, growth may be revised back close to zero for the quarter.

Finance Minister Kudrin continues on a very bearish track as he prepares the 2011 federal budget and hopes to have it approved by the Duma without any pressure for higher spending in election year. With the current average price of oil (Urals is close to $77 p/bbl year to date) the budget outturn will clearly be much better than his latest prediction.

President Medvedev starts a 2 day official visit to Ukraine Monday. One of the main issues to be discussed will be the proposal to merge Gazprom and Naftogaz. We should get a better sense of what the proposal actually means in practice during this visit. The greater likelihood is that Prime Minister Putin’s proposal is directed at eventual joint ownership of the gas transit system.

The backdrop to Medvedev’s visit is that Moscow is in a hurry to integrate itself into Ukraine’s commanding heights industries so as to cut the risk of a repeat of the problems encountered with the previous regime. For Yanukovych’s government the dilemma is that of accepting the much needed investment and subsidies while trying to avoid the criticism that it is selling the nation’s crown jewels.

Internationally, there are several economic reports and surveys due in both the US and in the EU that may have an impact on market sentiment and currencies. Included in the list is the Empire Manufacturing report, due Monday, and housing starts (Tuesday) in the US. In the EU, the ZEW survey of economic sentiment is due on Tuesday and will show how business sentiment has been affected by the debt and currency uncertainty. For a change, Friday is a clear day with no economic reports expected.

Most world markets fell sharply on Friday but, because of the strong rally earlier in the week, most indices recorded net gains for the five days. The MSCI World Index added 2.2% for the week and is now down 3.8% year to date. In the US, the S&P 500 Index lost 1.9% on Friday, despite positive economic indicators, to pull the five day rally back to 2.2% and the year to date gain to 1.8%.

The MSCI Emerging Markets index fell 1.6% on Friday but closed the week with a gain of 3.5% and, year to date, is down 3.0%.

The RTS fell 2.3% on Friday and MICEX ended the day off 1.9%. For the holiday shortened week, the indices respectively closed 5.2% and 4.9% better and year to date are off 0.2% and 1.3%. The MSCI Russia Index gained 5.9% for the week and is down 3.3% year to date.

The price of oil fell sharply on Friday as it was hit with an almost perfect storm. The dollar rally and the heightened concern over Europe’s sovereign debt hit all commodities. The June Brent Futures contract expired and the storage problems in Cushing, Oklahoma pulled the WTI contract to a near $10 p/bbl discount to the December Futures. Saudi reminded the oil market that it sees an average price of $75 p/bbl (Brent) for this year as ideal for both producers and consumers. The current year to date average is at $79.23 p/bbl so, in effect, Saudi is saying that it doesn’t mind a few months of price weakness if that then boosts demand.

Brent, for July settlement, fell $3.50 p/bbl on Friday to end the week at $77.93 p/bbl. WTI for June delivery, which will expire this week, closed at $71.61 p/bbl. The more active July contract traded at $75.43 p/bbl at the close on Nymex. Urals traded at $73.32 p/bbl at Friday’s close and is now averaging $76.99 p/bbl year to date.

The price of almost all commodities fell on Friday as a reaction to the latest burst of concern that Europe’s sovereign debt problems are far from over and may soon start to have a negative impact on economic growth and commodities demand. The dollar rally also had a negative trading impact on commodity prices.

Copper is the most sensitive of the industrial metals to economic news and led Friday’s declines. It fell 3.0% for the session to cut the five day loss of 0.3%. Nickel ended the week down 4.5% at $21,482 per tonne.

Gold traded almost flat on Friday. It ended the week with a gain of 1.4%, at $1,227.8 per ounce, while silver added 4.2% despite losing 1.4% on Friday.

Agriculture commodities were hit hard on Friday as the dollar rally raised fears that consumer demand will remain weak and a number of reports suggest big supply surpluses this year.


This week

Rosneft numbers today. While a generally better than expected 1st Qtr earnings season is winding down in the US, it is picking up pace in Russia. Rosneft will publish its numbers today (see our preview note published Thursday) and Vozrozhdenie Bank will publish on Tuesday. The former is likely to re-open the discussion about the impact of tax breaks in East Siberia while the latter will, hopefully, help clarify the picture of trends in the banking sector.

Hoping that April shows improvement. The April industrial production report is also expected this week, on Tuesday or Wednesday, and that is even more keenly awaited after a disappointing 1st Qtr GDP update late last week (see below). Investors had only modest expectations for the economy in the 1st half but definitely expect to see a more rapid improvement from the 2nd Qtr. The industrial production number will give the first indication of that trend. The consensus is for a 5.7% MoM decline but a 7.3% YoY increase. The April PPI report is due Monday or Tuesday is expected to show a 1.5% MoM and a 17.0% YoY increase.

Medvedev visit to Ukraine. President Medvedev starts a 2 day official visit to Ukraine Monday. The agenda is expected to be wide-ranging and to formalise some deals, e.g. the extension of the lease for the Sevastopol naval base, which have already been agreed. But, no doubt, one of the main issues will be the proposal to merge Gazprom and Naftogaz. That proposal was made by Prime Minister Putin two weeks ago and quite obviously took most people by complete surprise. Officials on both sides have been skirting around the issue ever since. We should get a better sense of what the proposal actually means in practice during this visit. The greater likelihood is that the proposal is directed at eventual joint ownership of the gas transit system (see Strategic Perspective: Gazprom-Naftogaz, of May 3rd). Since Putin made the proposal, it has become even clearer that a full merger would be politically destabilizing in Ukraine and economically undesirable. The backdrop to Medvedev’s visit is that Moscow is in a hurry to integrate itself into Ukraine’s commanding heights industries to cut the future risk of a repeat of the problems faced with the previous regime. For Yanukovych’s government the dilemma is that of accepting the much needed investment and subsidies while trying to avoid the criticism that it is selling the nation’s crown jewels.

Major sentiment survey due in Europe. Internationally, there are several economic reports and surveys due in both the US and in the EU that may have an impact on market sentiment and currencies. The US Empire Manufacturing report is due today and housing starts tomorrow. The CPI and PPI updates are due Tuesday and Wednesday and both are expected to confirm that inflation is still at a very low level. The Leading Indicator report on Thursday is expected to show a 13th straight month of growth. In Europe, the more important report will be Tuesday’s survey of economic sentiment. That will show how business sentiment has been affected by the debt and currency uncertainty. For a change, Friday is a clear day with no economic reports expected.

Equities face another sluggish opening session after the final hour collapse in US equities and generally weaker trading across Asia’s markets. The US markets fell by over 1.0% in the last hour as a reaction to reports that US regulators are investigating an increasing number of market deals. Asia’s markets are lower with weaker commodity prices and after Sony missed profit estimates. While Asia’s economies are currently strong, they are highly dependent on exports to the US and the EU. The fear is that weakness in Europe, especially, will start to ripple into Asian corporate earnings. The US S&P 500 closed down 1.2% while the Asian markets are off between 0.5% and 1.0% in afternoon trade. India’s Sensex is the exception, rising 0.4%.

The main theme in global markets is that of uncertainty. Investors remain nervous and sidelined while waiting for a new catalyst or, more hopefully, for the current situation to settle down with no more negative surprises. That nervousness was reflected in the US markets yesterday (S&P ended down 0.3%) and in Asia’s markets today. The S&P Asia 50 Index is off 0.65%. That % move is more likely to be reflected in the Russian bourses when they open.

The main news affecting the Russian market is the half yearly MSCI changes. Raspadskaya is included (expected) along with OGK-4 (a surprise). Magnit was widely expected to have been included but, again, has been overlooked. Gazprom Neft has been excluded (no great surprise given its small free float). The weighting of Gazprom is to be increased while that of Norilsk Nickel is to be reduced. All changes to take effect from May 26th (more on these changes and the overall effect on Russia indices, etc, in a note later)

OGK-4 is one of our favourite stocks with upside to target price of over 50%.

The price of oil is holding up remarkably well in the midst of the current global market chaos and, especially, in the face of the stronger US dollar. The price of July delivery Brent last traded at $80.23 p/bbl while the equivalent WTI contract (still affected by storage problems in Cushing, Oklahoma) is at $75.73 p/bbl.

The dollar-euro rate is at $1.2611 (closed at $1.2698 last night) and the dollar-yen is at 92.50. The preference for relative havens is still the main theme.

Industrial metal prices are lower again today. Copper is off 1.9% in Shanghai trade. Gold last traded at $1,232.2 per ounce, up 1.0% and again reflecting the preference for haven assets.

Sugar continues to fall as supply forecasts steadily rise. The price is off 1.9%. Sberbank looks likely to get the full 81% of RusAgro shares that that it reported to have underwritten in the forthcoming IPO. Recently IPO’d Protek, dropped 5.2% to the USD equivalent of $3.47 yesterday. The share gained immediately after the listing, completed at $3.50 per share. It seems that the after listing support may now have ended and few new natural buyers have yet emerged.

The main economic news today will be the advance reading of eurozone 1st Qtr GDP. The consensus is for a 0.1% QoQ and a 0.5% YoY gain. The March industrial production number will also be published. A bad miss on these numbers will be quickly, and negatively, reflected in the dollar-euro market while “in line” numbers will be ignored. In the US, there are no major reports due today. The trade balance and federal budget reports are due but rarely have any sentiment impact.

Moscow’s bourses opened yesterday’s session with a predictable bounce as prices caught up with GDR/ADR price gains from Monday. But, there was little appetite to ad new positions as investors reflected the bout of nervousness in both Asian and EU markets. MICEX slide for most of the day before a late bounce as traders closed some shorts and added trading positions as the US markets started to reverse its opening drop. That late 1.4% bounce helped MICEX to a session gain of 3.5%, to close at 1,328.2, while the RTS added 3.4% to close at 1,415.9.

LUKoil was the best of the blue chips on MICEX, closing 10.2% better. Rosneft lagged with a more modest 4.6%. The worst performing share was Raspadskaya as investors reflected on the implications of the weekend accident. The price fell harder into the close after the company said it may take years to restore full production. The shares lost 24.0% by the close on MICEX. Other coal producers benefitted from the accident as they will now be able to increase production. Belon gained 16.6% and Mechel added 15.4%.

The ruble gained strongly, partly because of the general relief rally across emerging market currencies and partly because the price of oil gained through the day. The former has come about as traders again return to high yielding assets in developing economies having dumped many of these in the midst of the euro debt crisis last week. The price of July settlement Brent reached $80.62 p/bbl by the close of the ruble session on MICEX. By then, the ruble had gained 30 basis points against the dollar, to 30.287, and 52 basis points against the euro to end at $38.438.

Chris Weafer is the Chief Strategist of Uralsib Group http://www.uralsib.com

Moscow’s bourses are set for a big single digit gain at the opening today as local share prices catch up with the 9.6% average gain in GDR prices yesterday. Moscow’s bourses were closed for a holiday yesterday. But, don’t expect too much of an immediate follow through, i.e.  beyond the opening price bounce, as global markets are already focusing on the consequences of the EU deal and on China.

Asia’s equity markets are trading lower today after a report showed higher than expected China inflation and because of indications that several big new equity issues are imminent. The former keeps alive the threat of monetary tightening that may cool Chinese growth and demand for commodities. The latter risks diverting cash from existing equities into new issuance. Metal prices, such as copper, also gave back some of yesterday’s gains due to the fear of China growth curbs

The euro is down slightly in Asia trade today, at $1.2742 from $1.2787 yesterday, as investors focus on the interest rate and inflation implications of the deal. The ECB will likely have to restrain interest rate growth in order to help economic recovery in the eurozone while such a massive issuance “threat” raises inflation fears. Gold last traded at $1,202.4 per ounce, down slightly from Friday’s close of $1,210.4 per ounce.

The problems in Europe reflect favourably on the investment case for Russia (see our note of last Friday, “When the Chaos Stops”). The price if oil has been remarkably resilient in the midst of the recent global turbulence and, this morning, Brent is again trading above $80 p/bbl. The latest macro reports also show that economic recovery is under-way in the country and that should lead to stronger earnings growth later this year and into 2011. Of course Russia will be just as caught up in any repeat of global market turbulence but, if there is now a more settled pattern to global markets then Russia is one of the countries that should perform relatively better.

MSCI will release the changes to its emerging market indices late this evening and that is expected to include some Russian Index changes. The changes will take effect as of close May 26th. Magnit, Magnitogorsk and Raspadskaya are considered contenders for inclusion. MRSK Holdings should also be admitted but may have to wait until its merger process is complete. One of the real estate companies, such as LSR Group, may also be considered as MSCI looks to replace the recently deleted Vimpelcom with other consumer themes.

Raspadskaya will be affected by the news of the fatal accident at its mine over the weekend. Investors will be concerned that this may lead to fines and other additional costs for the company.

Today is a relatively quiet news day in global markets with only the ABC Consumer Sentiment survey due in the US.

The ruble was hit last week with the double whammy of global market risk aversion and the falling price of oil. It ended Friday’s MICEX session at 30.5913 against the dollar and at 34.261 against the euro. That is a respective loss of 5.0% and 0.5%. With oil again above $80 p/bbl (Brent for July settlement) and better risk tolerance in global markets there should be a recovery in the ruble this morning, albeit also somewhat tempered.

The IOB Index of London traded GDRs gained 9.6% yesterday to partially reverse the 10.5% decline recorded last week. Gains were recorded across the board but with the high-beta global names leading. TMK added 14.11% while the other steel names closed between 11% and 13% better. Sistema was also particularly strong, rising 16.8% to $24.88.  Russian ADRs were also particularly strong in the US last night. Mechel led the gains with a rise of 17.6% to $24.84. Both mobiles closed almost 10% better.

US retail sales and eurozone GDP are most important numbers. This will be a quieter week for economic newsflow, at least at the start of the week. There are no reports of importance on Monday and on Tuesday there is only a consumer update that is usually of no significance. In these fragile markets, however, any missed forecasts can have an impact. Wednesday will be a more active day for reports with the March Industrial Production update and the advance reading of 1st Qtr GDP in the Eurozone. Good numbers will go a long way to calm fears of sluggish economic recovery in the region while bad numbers will reinforce last week’s fears and send prices lower. The ECB’s monthly economic report will be published on Thursday. Friday is the busiest day for important US numbers. The April retail sales report, April’s industrial production and the University of Michigan’s May consumer sentiment survey will all be published.

Fund Flows: Not (Yet) Spooked By Volatility

Still adding to Russia. Investors continue to increase exposure to Russia and even though the emerging market asset class suffered net redemption in the week to last Wednesday, Russia funds reported net inflows for a twelfth straight week. Russia was the only major country category, within the EM universe, to attract new money last week.

Moving to relative safety of GEM Balanced. According to data supplied by EPFR Global, the total emerging market asset class reported net redemptions of $215 mln. That compares with new money flow of $1,484 mln in the previous week. Within that, investors again moved from the uncertainty of country specific selection to the relative safety of the GEM Balanced funds. These funds reported new money of $607 mln, a broadly similar amount to the $612 mln of the previous week. Year to date, the EM total asset class has taken in $15.0 bln of new money, compared to approx $75 bln in 2009, with GEM Balanced funds taking $7.3 bln of that heading to the GEM Balanced funds.

Russia funds net positive by $2.2 bln in 2010. Russia funds attracted a modest $26 mln last week. But that is the twelfth straight week of inflows and brings the year to date total to $2.2 bln. That move to relative safety was also reflected in the Russia flows with ETFs attracting $76 mln while active managed funds lost $50 mln. Although modest last week, the Russia flows were again better than money flows in the other major EM country funds. China funds reported redemptions of $236 mln, Taiwan funds lost $112 mln, India funds lost $92 mln and Brazil funds lost $192 mln. That was the 4th straight week of redemptions from Brazil funds and, year to date, these funds have lost $241 mln.

Chris Weafer is the Chief Strategist of Uralsib Group. http://www.uralsib.com

Russia is a High Beta Global Market

Russia Story is intact. Russian equities were the best big market performers in 2009 and through the first quarter of this year. Therefore, it is no surprising that they are also leading the way down in this recent period of global market weakness. But conditions remain intact to support a relatively stronger price rebound when global market uncertainties abate. While a quick bounce can be expected from yesterday’s chaos, unsettled conditions are likely through the summer months.

Robust oil price is key. The price of oil remains key to the pace of economic recovery, the fiscal and budgetary outturn and how investors view both opportunity and risk in Russian assets. The current price, and year-to-date Urals average of $77.1/bbl, is well ahead of that needed to support that favourable backdrop. Where the oil price trades, as well as the strength of global economic recovery, will be critical to where Russia trades after the chaos ends

Euro debt and currency contagion. The main driver of the recent global market weakness is the fear that Europe’s sovereign debt issues may spread beyond Greece and both undermine the still fragile global market recovery and future viability of the euro. Yesterday’s chaotic trading in US markets was, however, partly technical and very overdone.

Thus far balanced with positive growth indicators. Although we expect a bounce from yesterday’s lows, the seriousness of the debt issue and the relative indecisiveness of the political response in Europe, point to continued uncertainty through the summer months. Markets everywhere face a volatile few months as investors hope that generally positive economic indicators in the US can counter-balance the debt and currency event risks.

Oil price is critical. The strength of Russia’s economic and earnings recovery is very much tied into the global economy. The majority of budget revenues and foreign earnings come from commodity exports that are directly linked to economic conditions in Asia and in the western economies. Oil continues to be a lot more robust than it has been during previous periods of dollar strength.

Russia relies on global demand. High oil revenues, year-to-date, mean that the budget is in a strong position to withstand a period of global turbulence. There is no risk of a return to the conditions of late 2008 or early 2009.

Steel and mineral stocks are highest beta. The best performing sectors and stocks over the past six months have been the high-beta global themes and stocks in industries subject to domestic restructuring. High-beta global stocks have suffered most in the recent sell-off and, for traders, represent the best way to position for a global and Russia market recovery.

Longer term, the domestic themes still look best. While the steel, mining and mineral stocks represent the main trading opportunities, albeit also the highest short-term risk, increasingly the market focus is switching to domestic themes. The economic recovery, albeit still slow, is starting to broaden out and is expected to become much stronger in the second half of the year. This should allow for strong earnings growth in these sectors in 2H10, and into 2011.

Oils still unattractive. The oil sector still looks likely to continue under-performing. Even though the oil price is high and valuations at a low relative level, the sector globally is out of favour. That doesn’t look likely to change over the medium term. The recent oil spill in the Gulf of Mexico is very likely to result in tougher operating conditions for the industry through higher costs and lower margins. The best way to play the high oil price in a Russia context is likely to remain the domestic sectors, which will benefit from increased budget spending and domestic economic revival rather than the shares of the oil majors.

Chris Weafer is the Chief Strategist at Uralsib Group. http://www.uralsib.com