Uninformed outsiders do often assume that Emerging Europe, Russia and Central Asia is a politically-risky, complicated geographic area dominated by wodka, violence, corruption and lack of transparency. In other words; a region that is way too dangerous to invest in.
But then again: those who were brave and smart enough to invest in markets like Russia, Kazakhstan and selected others during the last 10-15 years do know that high returns – even after risk correction – are possible. After all this is a market with enormous potential, the availability of huge inventories of natural resources, technically well-educated populations and some of the fastest growing consuming middle classes in the world.
And of course it is true that some of the countries in the region are not prototypes of democracy. But it is also true that quite a few of them are probably more stable than the average Emerging or Frontier Market in the world. With the right network and local partners, investors (be they portfolio investors or entrepreneurs looking for foreign direct investments) can avoid the pitfalls related to political turmoil and corruption while benefiting from the potentially huge opportunities. And never forget: valuation indicators in these countries do already incorporate potential risks to quite some extent. Here you don’t pay 30, 50 or 60 times earnings for a nice M&A possibility in IT or Social Media but PE ratios of 15-25 or even less!
In other words: serious investors have to think in terms of a realistic SWOT (Strengths-Weaknesses-Opportunities-Threats) analysis, thereby taking into account what the most interesting countries are besides dominating Russia. TLCS labels this: from Wodka to SWOTKA. The table below gives you in bullet points the SWOTKA analysis:
- Natural Resources
- Middle Class Growth
- Relative Stability
- How to deal with Corruption?
- Russian Language and Culture still dominant
- Global Foreign Bias
- Reasonable Valuation Levels
- Well-educated population in selected areas
- A ‘man-a-man’, A ‘word-a-word’ culture
- Increasing interest in Frontier Markets
- Potential for positive change in Foreign Bias
- Dependence on ‘strong’ leaders in smaller countries
- What if they are replaced or die?
- Legal or governance problems that translate into flawed deal structures and misinvestments
- LOCATION - Kazakhstan is located between high-growth markets such as China, India and Russia.
- NATURAL AND HUMAN RESOURCES - It benefits from vast energy and agricultural resources like oil, gas, coal, iron ore, copper, zinc, uranium and gold.
Main industrial products are Oil and Gas, mining and metallurgy products.
- Hydrocarbon resources
- Cotton and agricultural products.
- Key location on the Black Sea/Caspian Sea basin
Today Azerbaijan is considered to be the most sought after hub for untouched oilfields reserves in the world.
As you can see TLCS believes that Kazakhstan and Azerbaijan are markets/countries that deserve special attention next to dominating giant Russia. They are the K and A in our SwotKA analysis. Most of the featured elements in the SWOT part of SWOTKA are self-explaining, maybe with the exception of one: the Foreign Bias (see under Weaknesses and under Opportunities). Research by famous Dutch sociologist Hofstede has indicated that the famous Home Bias of investors does automatically translate into a Foreign Bias as well. If you overweigh your home country within your investment portfolio, you automatically underweigh other countries. It was proven that the underweight is not proportionally distributed over all countries. Markets tend to penalize specific regions more than others, with Emerging Europe-Russia-Central Asia being one of the regions that is hurt disproportionally. Hofstede and other researchers found out that this was directly related to Western fears about the region. Investors elsewhere were less sensitive. As long as the existing Foreign Bias is there, valuations in TLCS’s featured region will be relatively low and returns volatile. However: with a growing amount of global money flows now originating within this region itself (due to high commodity prices) and in the Middle East and China (due to once again high commodity prices and strong GDP growth), things might change rapidly as a result of which upside potential increases. That is why we consider the Foreign Bias both a Weakness and an Opportunity.