Flight increases as Russia’s reputational risk deteriorates
The key risk is Stage 3, i.e. a ban or restrictions on Russia’s interaction in global financial markets and/or any selected restrictions on trade or investment with Russia.
Investors assume that Stage 4 sanctions are not yet on the agenda simply because these would also have a negative contagion to several EU countries, and many high-profile companies, as well as indirectly on the global economy. For example;
• Russia is the world’s largest energy exporter. According to the last BP review of global energy Russia exported 185 Bcm of gas and accounted for 30 percent of Europe’s consumption. Russia exports 7.5 million barrels of oil per day, including over 2.5 million barrels of refined product to Europe. The idea that the US would be able to boost either gas or oil exports to either cover the loss of Russian exports or hit the price is nonsense over the medium term (see below).
• Russia is the world’s largest exporter of industrial metals.
• Some important industries would face a more immediate hit than others, e.g. Boeing. Russia is the largest exporter of titanium, a critical metal used in the manufacture of large jets. In December 2007 Boeing and VSMPO (the Russian producer) signed a supply and co-invest agreement which would see Boing invest $27 billion in Russia over the next 30 years. If sanctions are ratchet up, does Russia have a problem or does Boeing? And there are many other similar examples.
• Russia is the world’s fifth biggest consumer market, ranking just behind Germany. Last year imports totalled $360 billion with more than half from the EU and most in the form of consumer or manufactured products
• Germany is the biggest foreign investor in Russia.
• Russia has just entered a new phase in the development of the economy which will require a substantial step up in FDI. That, of course, is a double-edged sword. On the one side is Russia’s need for more investment, which if it does not come, may see economic growth remain at a low level for a long time. But it also means that Russia is opening up opportunities in such industries as agriculture, food and medicine manufacturing, infrastructure build, etc., right on Europe’s doorstep.
• Before the start of the global crisis in 2009, Russian companies were amongst the most active on the London Stock Exchange. There is a waiting list of approximately $25 billion worth of new issuance from private companies in Russia and twice that in the delayed state privatization program.
• Russian individuals are now meaningful players in several EU property markets and significant contributors to many tourist resorts across the still struggling Mediterranean economies.
Note: in the unlikely event that the best case scenario for investors plays out, i.e. no further sanctions and the start of normalisation of relations between Moscow and the EU, the stocks which have taken the biggest hit since