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(Last updated: 10 Oct 2011)
Trends and opportunities
The market
Russia has been one of the world’s fastest-growing emerging markets since 2000 and its financial sector is evolving rapidly. Despite having a very large number of banks (over 1,000 licensed institutions in 2011), the Russian economy is generally regarded as ‘under-banked’, in the sense that penetration of banking services falls far below Western levels. Insurance penetration also lags behind established markets.
With the Russian economy’s rapid rebound into growth following the global financial crisis in 2008, the financial sector started to recover in 2010, creating opportunities for Australian companies to work with suitable Russian partners. At the same time, Russia’s recovery has been uneven. In 2011, the International Monetary Fund (IMF) lowered its projection of Russia's economic growth rate to 4.3 per cent due to a string of global economic and financial challenges. (Source: IMF 2011, Country Report No. 11/291: Russian Federation: Financial System Stability Assessment). In general, growth is expected to be slower in 2012 affected by a negative global outlook for oil and gas prices and capital outflows.
Banking sector
The Russian banking industry comprises a number of players:
- Central Bank of Russia (CBR)
- State-controlled banks (27)
- Large private banks (131)
- Small private banks (689)
- Foreign-controlled banks (108)
- Non-bank credit institutions (57)
The market is characterised by the large number of credit organisations (1,058 as at 1 January 2010: World Bank). Of this number, some 221 were credit organisations with foreign participation in charter capital (Source: GCS, Russia in Figures 2009). The number of institutions is reducing as regulators weed out unstable and shady operations. The market is also characterised by a high level of capital concentration, with the top 30 banks accounting for approximately 70 per cent of all banking assets (Source: CBR, 2011 Banking Supervision Report 2010).
Retail and commercial banking remain dominated by state-controlled banks such as Sberbank, VTB Bank, Gazprombank, Rosselkhozbank and Bank of Moscow, which together held 47.9 per cent of the banking sector’s total assets in 2009. The Russian Government’s objective to reduce its role in commercial banking has not been completed, although there are plans to sell down government stakes in 2011-12. Although private Russian banks are mostly considered too weak to compete with state-owned banks and the name recognition and mature financial products of foreign banks; large private banks owned a significant share of the deposit market in 2010 accounting for 25.3 per cent, according to CBR. Key private Russian-owned banks include Alfa Bank, MDM Bank, PromSvyazBank and UralSib. Major international banks with a substantial retail and commercial banking footprint in Russia include Citibank, Raiffeisen, Société Générale and UniCredit. At the same time, while many Western banks consider Russia an appealing market, some such as Barclays and HSBC have exited the market after struggling to compete with state-owned banks.
Participation in the formal financial sector remains low. An estimated 60 million people (42 per cent of the population) still have no access to financial services, such as bank savings accounts, credit or investments in securities. (Source: The World Bank (2009) ’Diagnostic Review of Consumer Protection in Financial Services. Vol.2’).
At the same time, the banking sector appears promising, given the low penetration of services compared to Europe. Banks deposits with maturities over one year increased by 33.2 per cent in 2010 compared to 27 per cent in 2010, as reported by CBR.
Stock market
Russia’s stock market has evolved over the past 20 years, driven by global resources stocks such as Gazprom, Norilsk Nickel, Rosneft and the major banks. While individual share ownership remains low, the share market is increasingly recognised as a suitable platform for both private and institutional investors.
The stock market operates via two main trading systems: Russian Trading System (RTS) and Moscow International Currency Exchange (MICEX), with more exchanges located in the regions such as St Petersburg Interbank Currency Exchange (SPCEX) and Siberian Interbank Currency Exchange (SISEX), among others. In June 2011, RTS and MICEX announced plans to merge their operations by mid-2012, subject to approvals.
Many large Russian corporates also maintain secondary listings on other exchanges such as London, New York, Paris and Hong Kong in order to increase liquidity.
The derivatives market is largely represented by the Futures and Options on RTS (FORTS) Derivatives Market, which remains the leading derivative market of Russia and Eastern Europe. FORTS has been operating for more than 10 years and combines the developed infrastructure and high trading technologies. Market participants can trade using either their own terminals via Internet trading systems or workstations provided by RTS. Currently, there are 22 futures and 17 options traded on RTS, led by currency and oil futures.
The Russian stock market is one of the largest markets in Eastern Europe. Driven mainly by commodities, Russian markets have witnessed strong – if inconsistent – investment inflows following the strong energy and mineral prices of recent years. Capital inflow to Russian equity funds amounted to US$1.7 billion for the period from January to April 2010 (Interfax). However, capital flows remain volatile, reflecting shifts in oil prices and market expectations for the rouble. While in 2010 investors looked at risky assets, now investors are seeking domestic companies positioned for growth.
Debt market
The Russian debt market comprised of eurobonds, rouble bonds, loans issued by locally registered financial institutions and loans by foreign financial institutions, will most likely remain difficult for the foreseeable future amid challenging global conditions. In 2010, debt obligations dominated over securities portfolios, which were linked to government and the CBR obligations. The CBR reported that state-controlled and large private banks remain the largest debt holders accounting for 50.6 and 29.9 per cent respectively (Source: CBR, 2011). According to VTB Bank, the Russian bond market remains dependent on US and EU monetary policy. It is also hampered by corporate governance, inefficient bankruptcy laws and weak legal structuring for local bonds.
Insurance sector
The fragmented insurance market consists of approximately 647 insurance companies (as at 1 October 2010, CBR) that are characterised by low capitalisation and a limited range of products focused mainly on automotive and third-party liability insurance, which has grown since the introduction of mandatory third-party motor insurance in 2003. While the number of companies continues to decrease, their total authorised capital rose by three per cent compared to 2009, resulted mainly from the process of mergers and acquisitions. Key insurance companies include RosGosStrakh, RESO-Garantia, Ingosstrakh, SOGAZ and Soglassiye.
In line with the decreasing number of actors (down from 900 in 2007), the insurance market is expected to consolidate further, especially in property, casualty, medical and motor insurance, providing growth opportunities for stable insurance businesses. Consolidation will also be required in the reinsurance market, which is quite underdeveloped in Russia.
According to Business Monitor International’s (BMI) Russia Insurance Report (Q4 2011), a rapidly growing insurance market can be explained by increase in premiums in most of the major sectors. While in 2010 the insurance market growth was pushed by increased life insurance and collateral insurance policies, in 2011 compulsory medical expenses insurance dominated the non-life segment, accounting for half of the premiums. A 20 per cent growth in voluntary medical insurance and compulsory motor insurance, as well as slower but steady property insurance increase, are also positive indicators.
While insurance companies are seeking to extend their regional networks and attract more customers by offering new products, the general culture of insurance remains quite low. In turn, there is a lack of professional knowledge among insurance industry employees.
Since 2000, some European insurance companies have made investments in about 10 Russian insurers, despite some restrictions on foreign insurance companies operating in Russia. Foreign companies can operate via subsidiary companies, but there are limits on foreign investments in the insurance sector. Foreigners account for 25 per cent of the aggregate capital of the sector, which is a maximum permitted volume under current legislation. Foreign players include AVIVA and AIG.
Funds and asset management
Russia has a large number of non-bank financial institutions, such as insurance companies, mortgage providers, pension funds, asset management companies and financial intermediaries. These institutions are growing in importance and are starting to help mobilise savings and improve the efficiency of the financial sector.
Asset management has become a significant part of the financial sector, driven initially by the Russian Government’s effort to reform the pension system. Pension reform is expected to boost the private funds management sector by giving individuals more opportunities for investment. In 2010, the number of non-government pension funds decreased by approximately 4.8 per cent reaching 157, yet total assets under management by these funds grew by 16 per cent (Source: CBR, 2011).
However, capital markets remain limited by regulatory and legislative obstacles and lack the full variety of instruments necessary for modern investment. Consumers also lack knowledge and trust about investing in capital markets: only two per cent of Russian households have their savings in some type of private mutual fund. During 2010-15, the asset management sector in Russia is expected to grow to as much as US$250 billion from the current US$20 billion.
Some of the largest asset managers in the pension market are Capital and Promyshlennye Traditsii, Lider, TransFinGroup and TRINFICO. State-owned Vnesheconombank is responsible for the management of more than US$10 billion in private pension money. Other asset managers are Alfa Capital, Bank of Moscow, Raiffeisen Capital, Renaissance Capital, Troika Dialog and UralSib.
The number of financial intermediaries, including credit brokers, debt collection agencies and insurance intermediaries, is also growing. Some 10 per cent of all consumer credit is originated by newly established credit brokers, with their number growing each year. This, in turn, has required an improved system of credit reporting and debt-collection in bank and lending institutions, which have started to use debt collection agencies to address overdue loans.
One particular characteristic of the Russian market is the fast-growing networks of non-credit payment service providers that specialise in retail payment for utility, rent, mobile phone, travel and other services via ubiquitous ATM-like terminals. This market is expected to expand further with some banks, such as Sberbank, introducing higher commission rates for paying bills in bank premises.
Opportunities
Potential opportunities for Australian companies exist around:
- Financial services education and training services. Following a series of Russian Government initiatives, private and non-government organisations have been established to develop a national policy for financial literacy and education. Qualified Australian companies can potentially provide advisory and delivery services to Russian Government and industry stakeholders. Key priorities include mutual funds, private equity funds and segregated accounts. Australian industry’s experience in this area offers a significant advantage.
- Wealth (pension/asset) management funds and insurance sectors. Australian companies can help Russian companies adopt international norms and further develop the pension sector. While reforms offer tremendous opportunities for foreign asset managers in Russia, the incomplete system of regulation also presents many challenges. Australian companies can educate local government authorities and bodies about the Australian pension system to promote opportunities for high net-worth individuals and the general public. Training services and partnerships to help Russian asset managers introduce new investment instruments are also in demand.
- New technologies and software. There is significant demand in the Russian financial sector for proven tools to improve the efficiency of back-office operations and compliance departments. More expertise is needed to help improve credit-reporting infrastructure and meet increased demand for retail banking services.
- Risk management. Russian financial institutions are thirsty for expertise in managing risks in a difficult operating environment. Recovering from the global financial crisis is increasing demand for stronger risk management procedures and putting more pressure on corporate management. Institutions seek better mechanisms to manage risks across all banking procedures: from building risk-based pricing systems to sound compensation practices.
- Professional services. Accounting, legal, audit and internal control consulting are in high demand as more Russian businesses move towards international accounting and reporting standards.
- Mergers and acquisitions. This sector is of potential interest to expand the geographic and product footprint of Russian financial institutions as the local economy recovers.
- Infrastructure investment and advisory services. Infrastructure is an important growth area, given Russia’s vast requirements to upgrade its infrastructure legacy. Opportunities exist for joint ventures or provision of expertise.
- Stock market. Bond issues and international public offerings are among the key opportunities, as more Russian companies look for options to raise equity and debt in Asian markets such as Hong Kong and Singapore. Opportunities exist to Australian Russian firms list mining exploration companies on appropriate exchanges such as ASX, TSX and LSE.
- Insurance. Steadily growing interest in life insurance among wealthy Russians makes this a segment for the future. Insurance firms are looking to develop and offer unique products which can be attractive for Russians.
Investment opportunities
Russia, as an emerging market, offers appealing investment opportunities for investors with suitable risk appetite and a long-term perspective. The Russian Government is seeking to attract long-tenor capital backed by internationally proven expertise and advice to underpin the growth of the financial services sector. A major accent is raising the country’s capital base through equity-based foreign direct investment (FDI) to provide additional capital for infrastructure, modernisation and investment projects.
Nevertheless, as an emerging market with weaker systems of regulation, risk management and transparency, there are also considerable risks associated with investment in Russia. In the financial crisis of 2008-09, foreign investment in Russia decreased accompanied by rapid capital withdraw. Capital movements have been quite inconsistent in subsequent years, reflecting global and Russia-specific uncertainties.
In 2011, the Russian Direct Investment Fund (RDIF) was established with expected capitalisation of US$10 billion to be provided by the Russian Government over the next five years. RDIF is to play a leading role as “a professional partner for the world´s leading funds seeking investment opportunities here”, commented CEO Kirill Dmitriev. (Source: Dmitriev, K. 'Russian Direct Investment Fund Announces International Advisory Board', 2011 Wallstreet Online).
According to Ernst & Young, the total number of FDI projects in Russia is expected to grow by 16 per cent in 2011 or US$43 billion. (Source: ‘Doing Business in Russia’, Ernst & Young, February 2011) Among some priority sectors being underestimated are business services, software, R&D. At the same time, Russia will need major investment to become a leader focusing on infrastructure improvement, education, creating domestic demand (Source: 'Russia’s Modernization and Innovation from the Perspective of Foreign Investor', FIAC White Paper High Tech and Telecom Working Group, October 2010).
Austrade works to encourage key Russian stakeholders (business and government) to visit Australia while assisting Australian financial companies to explore opportunities in the sector. Investment opportunities for Australian companies include:
- Asset management. Australian asset managers can work with Russian partners to apply Australian know-how to better manage Russia’s growing financial assets and pension management segment.
- Moscow as a global financial centre. The Russian Government has outlined a plan to attract foreign capital, companies and expertise to develop the Russian capital into a financial centre of international standing. Significant challenges remain in terms of regulation, transparency and governance, nevertheless the growing pool of both capital and investment opportunities in Russia and the neighbouring Commonwealth of Independent States (CIS) region provide good long-term prospects for Moscow’s ambition.
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