In some ways, Russia has come along way since the fall of Communism. Russian mineral production is the envy of much of the developed world, and the country’s hydrocarbon reserves ensure global economic clout for decades to come. The speed of Russia’s recovery from a bond default in the late 90s was shocking, and has allowed the economy to grow at levels that continually surpass the rest of the G-8. The IMF predicts that Russian GDP will grow 168% between 2008 and 2013 and Moscow has the third most billionaires out of any city on the planet according to Forbes. This is truly a remarkable turnaround for a nation that only two decades ago embraced communism.
Yet, in other ways, it might as well be 1980 all over again. Many believe that Russia is more or less controlled by Vladimir Putin from behind the scenes. Critics claim that Putin, now Russia’s prime minister, and Dmitry Medvedev, who was elected as Russia’s third president with Putin’s backing, rule with impunity over Russia, stifling dissent and harassing opposition parties. Russia has also recently invaded Georgia to consolidate its power in the region and has ramped up tensions with the West over a variety of issues ranging from the role of the U.S. dollar as a reserve currency to strategies for dealing with Iran and Venezuela.
Russia’s economic boom over the past decade has been fueled in part by high energy prices and the proximity of Russian resources to developed markets in Europe and rapidly expanding markets in Asia. Russia has the largest reserves of natural gas of any country on Earth and has massive oil reserves as well. These reserves allow Russia to more or less hold the EU hostage, since they get 25% of their heating oil from the Russians. This gives Russia significant leverage over European politics that has been put to good use over the past few years. Efforts are underway, however, to reduce dependence of the European energy sector on Russian natural gas. In July, Turkey hosted the milestone signing of an intergovernmental agreement on the $10.3 billion Nabucco pipeline. While the Nabucco project has broad political support, it still lacks financial backing and firm commitments.
But the old saying “live by the sword, die by the sword” may be applicable to modern day Russia. More than 60% of the government budget comes from oil and gas revenues, resulting in potentially devastating shortfalls when prices crater below $30/barrel. Such situations could put the squeeze on the Russian government and will hurt their ability to provide social services and maintain price controls, both of which a large portion of the Russian populace has grown very accustomed to.
Internal Issues and Demographics
Russia continues to have many internal problems including the ongoing Chechen issue, the invasion of Georgia, a threatening stance towards other countries in the region (such as Ukraine), and hostility towards the Missile Shield in Europe. Yet these problems pale in comparison to the time bomb that is their demographic situation. Currently, Russia is experiencing a population decline unseen in history for a country not at war. According to the BBC, a Russian boy born today can expect to live for only 60 years, roughly 15 years shorter than their counterparts born in G-7 countries. The BBC also reports that by 2050 there could be a third fewer Russians alive than there are today. Such trends should obviously make investors very nervous about the long term growth prospects of some of Russia’s industries. With a shrinking population and an abundance of precious natural resources, it seems like only a matter of time before per capita Russian wealth approaches that of the developed world.
Russian Exposure Through ETFs
While investors can acquire a decent amount of exposure to Russia through any BRIC fund, the best way to get into Russia is with RSX from Market Vectors. RSX is, unsuprisingly, concentrated in Energy and Industrial Materials with over half of the fund going to those two sectors of the Russian economy. Another 30% is divided relatively evenly between telecom, finance, and utilities. Some of the major holdings include energy giant Gazprom and telecommunication provider Vimpel. So far in 2009, RSX has gained more than 80%,making it one of the top-performing equity ETFs over the first seven months of the year.
While Russia’s growth prospects are promising, investments in the nation may be a bit of a bumpy ride in the future, tied in large part to global and regional demand for natural resources and subject to disruptions caused political and social unrest.
Eric Dutram contributed to this article.
Disclosure: No positions at time of writing.