Wednesday, October 29, 2003

Market Meltdown in Russia

Alex Fak reports in the Moscow Times on oil barons, capital flight, oligarchs, gun-toting special forces, opposition parties, the rule of law, property rights, and the witches and goblins of the KGB past...

In one of the most dramatic financial meltdowns since the 1998 crisis, stocks, bonds and the ruble all plummeted Monday as investors ran for cover in the wake of the weekend arrest of Yukos CEO Mikhail Khodorkovsky on charges of massive fraud and tax evasion.

Led by Yukos' near 20 percent drop, stocks across the board dropped so fast that MICEX, Russia's largest market by trading volumes, was forced to suspend trading for the first time ever due to falling prices, closing for an hour during the day in a bid to slow the decline. The dollar-denominated RTS also halted trading temporarily, but only for Yukos shares.

By the time the closing bell rang, the benchmark RTS index had fallen 10 percent -- knocking some $14.5 billion off the market value of Russia's top companies.

"I haven't seen the market moving in one big step like this since Sept. 11," said Sam Barden, head of equity sales at Yukos-affiliated Trust Investment Bank.

The Central Bank, meanwhile, capitalized on the plunging ruble, snapping up $550 million worth of cheapening rubles in just 15 minutes, which helped to stem the national currency's slide.

Russia's jitters even spread to the euro and European government bonds. Both gave ground as Russia suffered what appears to be its biggest crisis of confidence since President Vladimir Putin came to power.

Khodorkovsky's arrest has sparked fears that already burgeoning capital flight could escalate further as the nation's oligarchs, owners of vast swathes of the economy, send their wealth to safer havens abroad. In the wake of Khodorkovsky's jailing Saturday, leading businessmen denounced the oil magnate's arrest and the storming of his plane by gun-toting special forces as undermining trust in the legal system. Some said they feared the same charges could be brought against them.

Analysts have said the attack on Khodorkovsky comes in response to his moves to build a political power base that could have threatened the Kremlin. The oil baron had said he was funding opposition parties for the upcoming parliamentary elections and he had clashed with the state over strategic issues such as oil export pipeline routes. Other oligarchs have kept a lower profile. Businessmen and analysts have speculated his jailing could be used as a way of forcing him to cede control of Yukos to a manager more willing to cooperate with the Kremlin.

Putin sought to calm down investor fears Monday, calling for an end to "hysteria and speculation" and warning against "generalizations" that suggested the scandal could mushroom into an en masse reversal of the controversial privatizations of the 1990s.

For months, investors had piled into the Russian market, pushing it to new heights as they waved aside Yukos' stand-off with the Kremlin. It began in July with the arrest of core Yukos shareholder Platon Lebedev on theft charges and then escalated as prosecutors launched a relentless wave of raids on Yukos-affiliated companies.

Adding fuel to the bull-market fire was Moody's recent decision to give Russian debt investment grade status on what it said was improving economic fundamentals and stability, as well as talk that ExxonMobil and ChevronTexaco were racing each other for a strategic stake in the new YukosSibneft.

On Monday, hope faded for that landmark multibillion dollar FDI deal. The Financial Times published a report citing sources close to the negotiations as saying talks had been suspended because of Khodorkovsky's arrest.

Other international ratings agencies said the Khodorkovsky scandal had exposed the risks that had long simmered beneath.

"The arrest of Mr. Khodorkovsky highlights the sorts of risks which have long been there in Russia, bubbling on the surface, now brought out by the forthcoming elections," said Edward Parker, director of the sovereign rating's group at Fitch's in London.

"It exposes the uncertainty of the rule of law and property rights, the partiality of the prosecution and judicial institutions, and the weakness of market institutions in general."

But many investors and analysts predicted Monday that the market's fall might be short-lived as fundamentals remained strong, despite the shock news of Khodorkovsky's arrest.

"It's like Halloween coming early to Russia. Everyone got scared of the witches and goblins of the KGB past," said James Fenkner, head of research at Troika Dialog.

"But we were only reminded that Russia is an emerging market. Some very expensive shares became a little less expensive today. This might present us with a buying opportunity," he said.

Other veteran investors were eyeing the plunge as a challenge to move in for more.

Ian Hague, co-founder of New York-based Firebird Management, which on Friday announced plans for a new $200 million investment fund for the CIS, said the arrest was "a very incorrect step to take."

"But fortunately, we don't see any long-term damage done to the investment environment as a result of this," he said in a telephone interview. Firebird still intends to invest 60 percent to 70 percent of the fund in Russia -- including in Yukos.

"Relative to other oil companies, we found Yukos more fairly valued," Hague said.

Emerging markets guru Mark Mobius, the managing director of Templeton Asset Management, and William Browder, director of Hermitage Capital Management, which controls more than $1 billion in Russian assets, both told news agencies they would not change their investment strategy.

Roland Nash, chief strategist at Renaissance Capital, said he thought the investment case for Russia remained unchanged.

"I don't think anything really fundamental has changed by what has happened," he said. "Everything that Putin has done in the last four years hasn't been reversed over the weekend."

Moody's, too, stood by its bullish assessment.

"We are not going to downgrade Russia's rating or change its outlook," said Jonathan Schiffer, lead analyst for Russia at Moody's in New York.

"The ratings assess the government's ability to pay debt three to five years from today. We don't think that recent events surrounding Yukos will diminish that ability."

But Russia's eurobonds also dropped Monday, partly in response to the ruble weakening, analysts said.

Risk premium on the benchmark Russia 2030 eurobond widened from 290 to 308 points over the U.S. Treasury 10-year note at the close of trading in Moscow, up from a low of 326 points earlier in the day. The bonds touched lows not seen since Moody's upgraded Russian debt.

The drop in Russia's debt sent jitters spreading to other emerging markets, mainly Turkey, but most analysts downplayed the risk of contagion.

Some analysts speculated that the ruble's slide had actually been fueled by traders trying to profit from the dollar's growth.

"People believe that during political upheavals it is always safer to keep dollars. Also, they expect Yukos to take money out of the country," said Sergei Sidorov, director of fixed income trading at Aton.

He added, however, that he believed the selling to be driven by profit-taking after the ruble's strong growth.

The official ruble rate was set at 30.08 rubles to the dollar, down 0.57 percent from Friday's 29.92.

  • Trading Stopped in Market Meltdown
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