“You can’t trust the Russians,” was the warning. It came from a Moscow cab driver, delivered to our son Henry. We had sent him to investigate.
From our point of view, it was an unnecessary caution. We never trusted the Russians anyway. Or the Chinese. Or the Democrats. Or wealth managers. Or General Petraeus. Or people from north of Baltimore or west of Hagerstown.
But what the heck?
You need confidence to buy Amazon. Or Google. Or Chipotle. You need confidence to buy a US T-bond, too. Or to let a contractor remodel your house on time and with the right materials.
But Russian corporate earnings are so cheap right now (in terms of the price-earnings ratio) you don’t need to trust Russians to profit from the situation there.
It’s why the Russian stock market is our top recommendation to members of our small family wealth advisory, Bonner & Partners Family Office (of which we have some important news below).
Since 2009, the world’s central banks have put an additional $8 trillion into the global economy. But this flood of liquidity has left Mother Russia high and dry.
The “trailing” P/E (based on 12-month “as reported” earnings) for Russian stocks is 5.7. This is in stark contrast to the S&P 500, which is trading on a trailing P/E of nearly 18.9. (In other words, a dollar of underlying Russian earnings is selling at a nearly 70% discount to a dollar of S&P 500 earnings.)
“It is priced for a crisis,” says Robert Marstrand, the British former investment banker who serves as the chief investment strategist at our little family wealth project. “And there is no crisis.”
Another colleague, Merryn Somerset Webb, editor of British finance magazine MoneyWeek, adds that Russian stocks are:
… cheap relative to everywhere else, and cheap relative to Russia’s own valuation history. Both measures are now much where they were back in 2008, and not far off half their averages over the last 10 to 15 years.
You will say that this makes sense. After all, who wants to pay normal prices for assets which are based in a very abnormal state? Surely anything dependent on a slowing economy, that is in itself dependent on gas and oil, is to be utterly shunned? As is any investment that comes with the appalling corporate governance on offer in Russia.
These are all perfectly good points. But there is cheap and there is cheap.
At current prices, investors are practically pricing in the return of Stalin, says Merryn.
So, we asked Henry to go to Moscow to have a look on behalf of Bonner & Partners Family Office. (We like to put “boots on the ground,” as they say. If those boots belong to a family member, all the better.)
We Owe the Soviets a Great Debt
“Russian companies are very inefficient. And they work in a world that makes it hard to get things done,” Henry reports.
“But you have to understand that Russians lived for 70 years in an economy that didn’t care about getting anything done. Output didn’t really matter.”
Before taking the capitalist road, Russians had an economy where, as one worker put it, “We pretend to work. They pretend to pay us.”
We owe the Soviets a great debt. They continued their experiment with central planning for seven decades. It should have been obvious at the get-go that you can’t increase output by letting bureaucrats run your economy. From the start, real, useful output began falling in the Soviet Union.
But God bless ’em. The Soviets kept up with it until they had proved conclusively that their centrally planned economy wouldn’t work.
Even now, the economy still suffers from serious problems – many of them the residue of the Great Experiment.
In the 1990s, the average Russian man had a life expectancy 20 years shorter than the average American. And according to former Goldman Sachs chief economist Jim O’Neill, who coined the term the BRICs, more than 60% of all Russian males over 40 die drunk.
And after the Berlin Wall fell, the Russian birth rate collapsed. In 2004, fewer than 11 children were born for every 16 Russians who died.
But Russian president Vladimir Putin has made some progress in this regard. A campaign to get rid of low-quality vodka has helped Russian men continue drinking longer. Now, male life expectancy in Russia is only 13 years below that of the US.
The Kremlin is working hard to try to keep their taxpayers from disappearing… and create even more of them. In 2007, for example, the City of Ulyanovsk organized a special “day of conception.” Workers were told to go home and go to bed. Prizes were given to those who had children nine months later.
Russia can be a tough place to do business. Businessmen, politicians and journalists often die under suspicious conditions. In 2003, the richest man in the country, Mikhail Khodorkovsky, was arrested. He spent the next 10 years in jail, on what looked to many like trumped-up charges. (Recently, the Kremlin announced he was being released.)
Even “outsiders” aren’t above reproach. Bob Dudley, the CEO of BP, was forced to flee Russia in 2008 in the wake of a management dispute and trumped-up tax-evasion charges (which were later dropped). Despite these annoyances, money is money. Russian companies may be benighted and labor in a world of woe. But they generate earnings. And you can buy these earnings at some of the lowest multiples in the world.
Henry concludes:
I was skeptical when I first arrived in Russia. But I came away confident that there is a real opportunity in Russia to take advantage of this country as it catches up with the rest of the world. What’s great about Russia is that the earnings are already there – we don’t have to buy “pie in the sky.”
Regards,
Bill
Market Insight:
Why Russia Is a Contrarian’s Dream Right Now
From the desk of Chris Hunter, Editor-in-Chief, Bonner & Partners
As you can see from the chart below of major market price-earnings ratios (P/Es), the Russian stock market is deeply unloved by investors right now.
That makes Russian stocks a contrarian’s dream right now…
We’ve been pounding the table on this opportunity both here at the Diary and at Bonner & Partners Family Office. We like to think of it as a “bull opportunity in the Russian bear.”
That’s because price-earnings multiples (and stock prices) are mean reverting. They may veer far from their historic average. But over time, they move back toward the average.
This is another way of saying that all things move in cycles. Nothing goes in one direction forever. No tree grows to the sky. And few things go to zero.
A case in point is Russian stocks. The last time P/Es were this low, in 2008, the Russian market rose by 167% over the next three years. And the time before that, in 2001, investors made 328% gains over the following three years.
You may not like Russia. You may not even trust Russians. But our advice is to trust in the power of mean reversion and the outsized returns you can pocket by leveraging this powerful force. Buy a Russian index fund now and hold for the long term. We expect at least 100% gains from this investment.
Ed. Note: This is exactly the sort of setup we look for at Bonner & Partners Family Office. That’s because family wealth investors have one big advantage most ordinary investors do not: time. Over time, you can put Mr. Market’s mood swings to your advantage. Buying when assets are out of favor… holding for the long term… and selling again when they are in vogue.
We believe passionately that this is the single best way to build wealth over time. That’s why, starting today, we’ll be sending you a series of bonus reports on what family wealth investing is all about. And how you can use the strategies developed by Bill and his team to build and protect your own portfolio. Look out for them in your inbox later today.
