Russia Economic Pain Spreads as UBS Cuts Seven Stocks

Russia’s worsening economic crisis is spreading through its corporate bond and stock markets as a tumbling ruble and plunging growth erode confidence in companies recently seen as able to withstand the turmoil.
UBS AG cut stock ratings for seven retail and Internet companies yesterday including Lenta Ltd. and Yandex NV. Petropavlovsk Plc, Russia’s third-biggest gold producer, agreed with most of its investors to a rescue package that includes selling $335 million of shares and bonds to cut debt. More than 50 of the country’s corporate bonds now yield at least 10 percentage points more than Treasuries, levels considered distressed.
“The vector of the Russian economy is just down,” Ian Hague, founding partner at New York-based Firebird Management LLC, which oversees about $1.1 billion including Russian stocks, said by phone yesterday. “We see lower levels of disposable income, higher inflation and higher borrowing costs. The ultimate effect of this economic downturn is spreading to all the sectors of the economy, including retail stocks and the Internet companies.”
Russia’s benchmark Micex index (INDEXCF) has plunged 7.8 percent in the past three days, while yields on corporate dollar debt surged an average 1.65 percentage points last week to 9.66 percent, the highest since 2009, JPMorgan Chase & Co. indexes show.
The ruble has tumbled 25 percent over the past two months, extending this year’s slide to 39 percent, the worst performance among 24 emerging-market currencies tracked by Bloomberg.

Looming Recession

Russia’s economy is succumbing to international sanctions linked to the Ukraine conflict as the plummeting ruble drives inflation to the highest levels since 2011 and plunging oil prices erode export revenue. The country may enter its first recession since 2009 in the first quarter, Deputy Economy Minister Alexei Vedev said last week.
A metric in Russia’s bond market also is revealing growing concern that President Vladimir Putin will impose capital controls to stem the ruble’s rout. Investors are demanding a widening premium to own ruble-denominated bonds traded in Moscow rather than ruble debt that trades in London and international markets. The yield gap between the two securities has swelled to 0.66 percentage point, the widest since January 2013 and more than six times the average over the past two years, according to data compiled by Bloomberg.

Oil Collapse

While U.S. and European sanctions including financing restrictions and export bans had already been squeezing Russia’s $2 trillion economy, the outlook worsened as oil, the country’s top export that was already in a bear market, collapsed further after OPEC decided on Nov. 27 to maintain output levels. The weakening ruble helped pushed inflation to 9.1 percent in November, the fastest in more than three years.
UBS cut electronic-payment processor Qiwi Plc to the equivalent of hold from buy and lowered its price target by 41 percent a month after the company said its 2014 profit could surge as much as 70 percent. The bank cut Yandex to hold six weeks after the search-engine operator raised the lower end of its 2014 sales forecast.
The ruble-denominated pace of growth among Russian Internet companies won’t be enough to compensate for the currency’s plunge, UBS analyst Ulyana Lenvalskaya wrote in an e-mailed research note. She also cut Mail.ru Group Ltd., which operates the country’s most popular social network, to hold from buy.

Retailers Squeezed

“The downgrade is driven purely by currency depreciation and the increased Russian risk-free rate, while our ruble-based forecasts for all three companies stay almost unchanged,” Lenvalskaya wrote.
While Russian retailers had been holding up relatively well even as sanctions squelched growth, a deepening ruble rout will pressure them in 2015, according to UBS. The bank cut OAO Lenta Ltd., Russia’s third-biggest retailer by market value, X5 Retail Group NV, which is 22 percent owned by the billionaire Mikhail Fridman, Dixy Group and O’Key Group SA to hold from buy.
The first half, and particularly the first quarter, will probably be “the toughest part of the year,” UBS analyst Svetlana Sukhanova wrote in the research note.
“The first quarter will be the time of a peak in inflation, and there will be a strong pressure on disposable income, something that consumers will need to adjust to,” Sukhanova said in a phone interview.

Inflation Outlook

The Bank of Russia is running out of options to stabilize the ruble after at least $2.6 billion of interventions last week failed to stop the rout. Borrowing costs jumped to a five-year high as the tumbling currency sparked speculation policy makers will raise interest rates as early as this week to stem the decline.
Declining oil prices, the falling ruble and surging inflation “make Russian local debt less attractive,” Tatiana Orlova, the chief economist for Russia at the Royal Bank of Scotland Group Plc in London, said by e-mail. She projects inflation to “closely approach 10 percent” by year-end.
The Bloomberg Russia-US Equity Index of the most-traded Russian stocks in the U.S. decreased 4.9 percent to 59.94 in New York yesterday, the lowest since July 2009. Futures contracts on the dollar-denominated RTS index expiring in December fell 0.2 percent in U.S. hours.