Best Bets on Russia

07/02/2004 12:00 am EST

Focus:

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

"Commodities are set for a long-term bull market that could last more than ten years," says Elliott Gue and Yiannis Mostrous. "Countries rich in resources will benefit tremendously, and Russia, which possess massive oil and gas reserves, will do even better."

"In 2003, the Russian economy had a great year, as growth surpassed 7%. In addition, private sector credit growth reached new highs and now accounts for 70% of GDP, up from 40% in 1999. Finally, negotiations regarding Russia’s membership in the World Trade Organization have been favorable and membership could be a realistic prospect for 2006. This will be a big positive. Bear in mind that Russia is an emerging market and remains volatile. Investing there requires patience and a strong stomach. That said, we’re fairly certain that reforms will pick up pace this year and next. If our long-term view is accurate, Russia is a buy. The Central European Equity Fund (CEE NYSE) offers comprehensive exposure to Russia and its neighbors. It’s a buy at current prices. Meanwhile, here are top picks among individual stocks:

"With over 20 billion barrels of proven oil and gas reserves, Lukoil (LUKOY Other OTC) is Russia’s largest integrated oil company. In terms of proven reserves, the company is second only to ExxonMobil. But Lukoil is determined to get even bigger. Higher oil and gas prices have helped it increase its spending on exploration and development of new fields—this year the company plans to invest about $1.2 billion on Russian projects and another $400 million on projects abroad. That includes the development of Russia’s Caspian Sea oil reserves. Other projects include a new contract in Saudi Arabia and fields in Kazakhstan, Iran, and Egypt. And Lukoil isn’t just an exploration and production company, but a true integrated oil giant. It owns eight refineries around the world and a total of 4,700 gas stations. In 2002, Lukoil made history when it acquired Getty Petroleum—becoming the first Russian company to buy an American firm. That deal added 2,000 gas stations in the US to its marketing portfolio. Buy Lukoil below 120.

"Beef, eggs, milk, and fruit juice have all seen prices rise between 20% and 100% in the past year—drastic increases by any measure. That hurt Russian food producer Wimm-Bill-Dann (WBD NYSE) in the first quarter, as Wimm derives about 76% of its revenues from the sale of milk, with most of the remainder coming from juice sales. Large price increases for these basic commodities hurt profits. That coupled with weakness in the Russian stock market has pushed the stock down sharply over the past few months. But that looks to be a temporary problem. Meanwhile, the company’s revenues jumped a whopping 22% over the past year. You’ll have a tough time finding a western food producer showing growth of that magnitude. Demand that strong, coupled with a strengthening Russian economy, will allow Wimm to pass some of those costs on to consumers, boosting profit margins again. Buy Wimm-Bill-Dann below 17.50.

"Think of the infrastructure necessary to install fixed telecommunications networks. Fiber optic cable must be buried and individual homes and businesses have to be wired. It’s far cheaper and more reliable to develop wireless communications networks, which is why the mobile phone rules supreme in emerging markets. With nearly 15 million subscribers, VimpelCom (VIP NYSE) is Russia’s second-largest mobile-phone company. Better yet, it’s one of Russia’s fastest growing companies, adding two million subscribers and posting earnings growth topping 80% in the first quarter of 2004. The company’s network covers well over 90% of the Russian population and offers both basic telephony service and more advanced features such as wireless Internet access. Russia’s mobile phone market has grown from under 100,000 in 1995 to over 40 million today. But that remains only a drop in the bucket—the mobile penetration rate stands at less than 29% of the population, far lower than in western markets. The company has truly huge growth potential ahead. And trading at about 20 times trailing earnings, the stock is cheap relative to its growth potential. Buy VimpelCom below 100."

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