NYSEARCA: RSX Russian Stock Market Enjoying Trump Bump

It’s no secret that the Russian stock market has been enjoying broad gains since Donald Trump won the U. S. presidency, perhaps even more so than the U.S. stock markets.

The VanEck Vectors Russia ETF (NYSEARCA: RSX), the largest Russian ETF listed in the U.S., managed to rack up gains of nearly 20% just one month after the elections, finishing the year nearly 50% higher.

The MICEX Index that tracks performance of the 50 largest Russian companies listed on the Moscow Exchange was up 13% over a similar timeframe. The RTS Index, one that tracks 50 Russian stocks denominated in U.S. dollars, displayed equally strong gains.

In sharp contrast, emerging markets were down nearly 7% collectively as measured by the iShares MSCI Emerging Markets ETF EEM. Russia is considered the leading emerging market.

To be fair, Russian stocks were rallying well ahead of Trump’s historic win. But the fact that the MICEX Index gained 5% in December as opposed to its choppy performance in 2014 and 2015 when it tanked 9% and 10%, respectively, suggests that Trump’s election has had a favorable impact on Russian markets.

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So what magic has Trump brought to Russian stocks, and can it last?

Russian Stocks in 2016

Source: CNN Money

Trump’s Administration being viewed as Pro-Russian

Russian stocks have been rallying mainly because the markets view Trump’s administration as being pro-Russian. There’s optimism that the U.S. will ease trade sanctions placed on Russia in 2014 after its aggression towards Ukraine. The U.S. launched a series of sanctions that touched Russia’s all-important economic sectors including energy, defense, and banking when the latter annexed Crimea from Ukraine in early 2014.

The nomination of Exxon Mobil chief executive Rex Tillerson as U.S. secretary of state is also seen as portending good for the country—although the ties between Tillerson and Russia seem to stop at Exxon business, and Tillerson denounced Putin and Russia’s handling of Ukraine in his senate confirmation hearings on January 11. Russia did bestow the Order of Friendship on Tillerson, after he signed a cooperation deal with the country and Rosneft, the largest integrated oil company in the country, in a deal that Russian president Putin estimates to be worth $500 billion.

For many Russian traders, however, Donald Trump’s election is a little bit more nuanced, with both a good and a bad side.

Let’s start with the good.

The Good

There are already clear signs that Trump’s administration will have a spirit of cooperation with Russia, albeit somewhat adversarial. Trump has wavered somewhat in buying into American intelligence agencies claim that state-sponsored Russian hackers breached the Democratic party organization and leaked private email conversations—an indication that Trump is not looking to sanction Russia. The White House has responded to Trump’s reluctance by announcing a series of severe retaliatory measures, including expelling 35 Russian diplomats who they claim were acting as intelligence agents. The White House also expanded the scope of the president’s powers by allowing the president to levy economic sanctions against overseas hackers, who are beyond the reach of law enforcement. The order also allows the American government to put an embargo on any assets by such individuals that are held on American soil.

Although the retaliation by the American government has been roundly labeled as the biggest action on Russian espionage since the Cold War, Republicans John McCain and Lindsey Graham are fully in support and even feel that it’s a small price to pay considering the magnitude of what they perceive as a blatant attack.

The Russian government has promised its own retaliatory measures should the American government carry on with the sanctions.

The China Precedent

In 2014, The U.S. Justice Department indicted five members of China’s People’s Liberation Army on hacking charges following a wave of economic espionage by Chinese cyber criminals. It then followed up with a threat of economic sanctions in 2015, which forced the Chinese government to sign an agreement not to engage in further economic espionage. So a precedent does exist for sanctions based on hacking.

The Department of Homeland Security’s U.S. Computer Emergency Response Team has released data about another broad Russian government hacking activity, it has named ”Grizzly Steppe.” The campaign includes not only this year’s attack, but also hacks of U.S. universities, think tanks, and corporations. The fact that the White House released a list of five Russian organizations and six individuals whom it has blacklisted may make it difficult for Trump to easily brush aside the report.

Trump released an official response just hours after the White House announced the sanctions:

“It’s time for our country to move on to bigger and better things. Nevertheless, in the interest of our country and its great people, I will meet with leaders of the intelligence community next week in order to be updated on the facts of this situation.”

The Bad

The China agreement has mostly held up. According to breach remediation firms FireEye and CrowdStrike, Chinese attacks on U.S. corporate targets have declined as much as 90% since the agreement was penned. For Trump to lift the sanctions, the new Secretary of Treasury will have to release a statement saying that Russian hacking activity that led to the sanctions being imposed have ceased.

Reversing the measures imposed by the Obama government will not be a walk in the park as some might have assumed.

And the Ugly

Politics aside, a big reason why Russian stocks performed well in 2016 was due to a recovery in oil prices, which spurred an economic recovery. Gains among Russia’s three largest oil producers–OAO Rosneft, Gazprom Neft, and Lukoil– were particularly pronounced after Trump’s election as the markets remain optimistic that lifting of trade sanctions will lead to more production and faster economic growth. Oil and gas are extremely important to the Russian economy, accounting for 50% of budget revenue. Russia has been experiencing a widening budget deficit since 2013 due to falling oil prices and the American trade sanctions.

Source: Bloomberg

The huge dependence on oil makes Russia particularly vulnerable when oil prices fall. The Russian economy declined 3.7% in 2015 but managed to grow 0.5% in 2016 after oil prices rebounded during the latter part of the year.

Source: Bloomberg

But those gains might not last if Donald Trump pushes on with his new energy policy. Trump plans to boost U.S. oil and gas output by removing regulations that have been restricting offshore oil and gas exploration—as well as exploration on federal lands. He also plans to rescind a moratorium on coal mining leases. These moves are likely to put a damper on oil prices, which have been moving higher since November after OPEC agreed to cut production by 1.5 million barrels/day starting in January. A glut in oil production has been responsible for the rout in oil prices since mid-2014.

Source: Nasdaq

VanEck Vectors Russia ETF has been showing mixed action since the beginning of the year mostly due to uncertainties about future oil supplies.

RSX Year-to-Date Returns

Source: CNN Money

Oil prices tumbled 4% on Jan. 9, the biggest single-day drop since November, on concerns that the possibility of rising U.S. output coupled with high Iraqi crude exports would badly undermine OPEC’s planned cuts. Prices then recovered somewhat on Jan. 11 after reports that Saudi Arabia, the largest oil producer in the world, planned to cut supply to Asian countries.

But future U.S. supplies remain the biggest wildcard here, and the biggest threat to traders betting on a recovery in the Russian economy. Currently, many traders believe that the forecast of 1.4% expansion in the Russian economy in 2017 is easily achievable, which raises the prospects for an upside surprise that is likely to underpin the stock market rally. The general outlook on Russian stocks will, however, depend a lot on how Trump’s new energy policies play out.

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