Russia ETFs Struggle as High Rates Crimp Growth

ETF Trends

Exchange traded funds offering exposure to oil-rich Russia have not been immune to the struggles faced by the BRIC group this year. Year-to-date, the $1.3 billion Market Vectors Russia ETF (RSX) and the $297.4 million iShares MSCI Russia Capped ETF (ERUS) are both down about 12%.

Those declines have been notched despite high oil prices, something that, in theory, should be beneficial to two ETFs with weights of 43.3% and 53.8%, respectively, to the energy sector. Russia is the world’s largest oil producer. The country pumped an average of 10.43 million barrels per day last month and since it is not a member of the Organization of Petroleum Exporting Countries (OPEC), Russia is not constrained by production limits, meaning it can increase output as it sees fit to take advantage of high prices. [Russia ETFs See Heavy Inflows as Oil Prices Rebound]

High energy prices have not been of much help to RSX and ERUS this year, though among the major BRIC ETFs, the pair have outperformed their Brazilian and Indian equivalents by wide margins. High oil prices have not been enough to offset Russian interest rates, which are among the highest in the emerging world. That factor could contribute to country’s second recession in the span of just five years. [BRIC ETFs Need Brazil to Get Back in the Game]

With banks demanding more collateral and borrowers put off by interest rates that reach as high as 20%, corporate lending in Russia has plunged, report Agnes Lovasz and Olga Tanas for Bloomberg. The average weighted interest rate on loans to smaller companies is between 15% and 17%, Bloomberg reported, citing SME Bank.

High interest rates could prevent companies that are not large, state-run entities from accessing the credit market, which is not good news for an emerging market that posted developed market-style GDP growth of just 1.2% in the second quarter.

While the energy sector dominates RSX and ERUS, both ETFs feature decent allocations to the financial services, indicating slack loan growth could be a problem for the funds to contend with. RSX features an 11.8% weight to financials while ERUS devotes almost 17.4% of its weight to the sector.

Slow economic growth and declining loan growth come at time when Russian President Vladimir Putin is pressing companies, including state-run banks, to increase their dividends. A report published by WisdomTree last month indicates that Russia lead year-over-year payout growth among country’s in the firm’s emerging markets dividend index. Russia is now the second-largest dividend-paying country in the index, according to WisdomTree.

Still, Putin’s plans to extract higher payouts from Russian firms, including banks, could be derailed if loan growth does not rebound and the economy enters another recession.

Market Vectors Russia ETF

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ETF Trends editorial team contributed to this post.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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