Eastern Europe retains its hidden gems for investors, says Eastern European Trust manager

Sam Vecht, portfolio manager of The Eastern European Trust plc, a UK listed closed ended fund, says that most Eastern European markets are in better fiscal shape then the eurozone.

We continue to believe that Eastern Europe, an asset class with the prized combination of high growth, high returns and low valuations, affords a great deal of economic potential which discerning investors can benefit from.

Eastern European equity valuations are exceptionally cheap, relative to both global equity markets and to their own history. In fact they are close to levels seen only during the lows of the 2008/09 financial crisis. This is why we believe the present time is a great opportunity to invest in the region and suggests significant long-term potential to reward investors, particularly when coupled with a number of improving trends in the investment dynamics of the region.

Whilst the Eurozone debt crisis was a recurrent concern of the past year, most Eastern European countries are in better fiscal health, with lower sovereign debt burdens – considerably lower than the European average – and low budget deficits. It is important to keep in mind that Eastern Europe should be viewed as fundamentally distinct from the highly indebted peripheral European economies which are the focus of current financial worries.

Further positive attributes of the region, including low tax rates, a skilled workforce and undervalued currencies, make Eastern Europe an exceptionally attractive place to do business even when compared to fashionable Asian destinations. Chinese automobile manufacturer Great Wall Motor Company, for example, opened its first European plant in Bulgaria in February of this year because they now consider it to be a cheaper manufacturing location than China for their product.

Russia’s investment climate is improving; recent data points have indicated that Russia is in robust economic health, and has recorded record-low inflation thanks to improvements in monetary policy. The new Russian government is more liberal in its composition, and has ambitious plans for economic and market reforms to boost foreign investor interest.

There have also been a number of unheralded corporate governance improvements in Russia, not least a government drive to increase dividend payouts offered by state-controlled Russian companies. Practical progress is already underway, with companies such as Gazprom more than doubling its dividend in the past year. For the first time, Russia has a dividend yield similar to that of Global Emerging Markets, making it a new destination for investors seeking income.

It is also worth noting that a large number of Russian and CIS companies are using the depressed market conditions to buy back their shares. In the last few weeks, Lukoil, Novatek, Sistema, Dragon Oil, Uralkali, Severstal, Rosneft and KMG have all conducted or announced buybacks. In each case this has been in excess of $100m and some extend into the billions.

The Turkish economy has also seen improvements in its fundamentals, with a closing current account deficit and improved balance in the economy which is supportive of equity valuations and positive for further sustainable economic growth.

In the context of this supportive background, we are investing in ‘hidden gems’; investment ideas with great potential and undeservedly low profiles. The wealth of investment opportunity is perhaps exemplified by the diverse span of such companies, from the Russian internet to Turkish gold-mining, from pharmaceutical innovation in Hungary to shale gas in Poland.

Of course, Emerging Europe will remain sensitive to the health of the global economy. Further volatility in the Eurozone could affect Eastern European markets, but as the region’s superior underlying economic fundamentals are coupled with unusually low valuations, growth and fiscal stability should increasingly be recognised over time. The risk/reward balance is therefore tilted in favour of investors and we believe the outlook for Eastern Europe is positive.

 

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