Russian equities and Russia ETFs look dirt cheap relative to U.S. markets, but the perceived value of this emerging market comes with substantial risks.
The VanEck Vectors Russia ETF (NYSEArca: RSX) has declined 2.2% year-to-date and currently trades at a 7.56 price-to-earnings and 0.85 price-to-book. In contrast, the S&P 500, which is up 0.7% this year, shows a 19.9 P/E and a 2.8 P/B.
Russia looks risky on due to its political environment and long-term fundamentals, writes James Mackintosh for the Wall Street Journal. The government is run by a rich elite that has enriched itself, with a nationalist leader that has used its military actions to screen its domestic issues. Additionally, the economy is heavily reliant on oil and gas, which has been dealt a heavy blow in light of the upstart shale and renewable energy industries. Lastly, Russia has been subject to sanctions, which the U.S. recently brought back into focus.
The Risks of Investing in Russian Equities
While Russian equities appear cheap on many valuation metrics, the risk of more serious sanctions or confiscation, along with other risks, may not justify the low price. However, there are those, like value investor Grantham, Mayo, Van Otterloo & Co., whom are adding to Russian market exposure, arguing that the bad news is fully baked in.
“We’ve always said you make more money when things go from truly awful to merely bad than when they go from good to great,” Arjun Divecha, GMO’s head of emerging-market equities, told the WSJ. “Russia’s relationship with the world is now approaching truly awful.”
Value traders looking at Russia will have to keep in mind more short-term risks, namely a military confrontation if the U.S. is drawn into the Syria conflict and more U.S. sanctions are discussed.
Furthermore, Russian markets have been more sensitive to changes in oil prices than sanctions. For example, the market cap-weighted RSX is heavy on the energy sector at 41.4%, with Gazprom 8.3% and Lukoil 7.5% among its top holdings.
For more information on the Russian markets, visit our Russia category.