Balkan Equities: Surprise Stars
2011-05-17 18:29:34
A frequently-forgotten corner of the emerging markets world has produced some of the best equity returns of 2011.
South east Europe, more often associated with political instability and economic stagnation, has posted stock market gains of up to 29 per cent in US$ terms as investors decided economic conditions weren't quite as bad as was generally perceived.
But does that mean that what was once over-sold is now over-bought?
The region's top performer is Bulgaria with a rise of 29 per cent in $ terms and 22 per cent in local currency. According to FT data, that's the world's best in $ terms and second only to Zambia in local currency. As the table below shows, others weren't far behind:
As the figures show, the $ performance has been boosted by the surge in key floating east European currencies, including the Hungarian forint, the Romanian leu, and the Polish zloty, against the euro, and the euro's 8 per cent appreciation against a weakening dollar. But even in local terms, the gains are striking.
"It's been a bit of a surprise to us. A lot of the bad news was priced in and some of the economic pressures have been taken off these countries," said David Oxley of Capital Economics.
These markets have benefited, first of all, from the coherent international support extended by the European Union and the International Monetary Fund from 2008 onwards, with programmes for Hungary, Romania, and Serbia. These combined with the so-called Vienna Initiative, an informal grouping of multilateral agencies and international banks active in eastern Europe, which successfully put pressure on the banks not to pull out of the region.
Next, while it was already clear by mid-2009 that the region would avoid financial meltdown (and that Europe had much bigger difficulties in Greece, Ireland and Portugal), it has taken time for any confidence to return. But at least conditions aren't getting worse – so bottom-fishing investors smell opportunities.
Also, unlike the EU's Mediterranean problem countries, public and private debt levels are generally low – around 75 per cent of GDP combined for Romania and even less for Bulgaria. Hungary, a persistent over-borrower, is an exception, but has tightened its borrowing belt since it started its EU/IMF rescue programme in 2008. So, these countries (Hungary apart) have avoided the borrowing scares that drove Greece, Ireland and Portugal into crisis.
Investor sentiment towards the region changed dramatically at the turn of the year, with bourses making big gains in January. But just as impressive is the way they have resisted in recent weeks the buffeting suffered in other EM stock markets.
Valuations have stayed up. In Romania, stocks trade on a p/e of 14 versus around 11.5 in late -2010. Bond yields too have fallen and stayed down – in Bulgaria the 10-year government benchmark yields 3.2 per cent compared to 3.8 per cent in December.
So what next?
Stability doesn't mean growth. The region's recovery is weak and dependent right now on strong export growth to Germany, Europe's biggest economy. Credit expansion, a key driver of the economy pre-2008 remains weak, so does growth. Romania, for example, after two years of recession (-7.1 per cent in 2009, and -1.9 per cent in 2010), will do well to exceed 1.5 per cent growth this year.
The IMF warned this week that growth in eastern Europe should accelerate only slightly this year as domestic demand recovered, but trouble in the euro zone periphery, wide budget deficits (in some countries) and inflation pressures still posed risks.
The long shadow of Greece hangs over the region, with Greek banks controlling around 35 per cent of bank assets in Bulgaria and 20 per cent in Romania. If the Greek crisis flares up again, SEE will be vulnerable to the shocks. Investors from other, stronger, economies, including Russia and Turkey, have shown they are willing to put money into the region. But the shift, if it comes, could be slow and uncertain.
Gabriel Sterne, of Exotix, the frontier markets specialist, is now marking Romania and Bulgaria as a sell, and he remains positive on Serbia.
If investors take his advice, the effects could be dramatic. What goes up fast can go into reverse just as quickly. SEE bourses are generally small, with Bulgaria's capitalised at just .2bn. Even Romania at .5bn and Hungary at .3bn are much smaller than Warsaw, the region's leader, on 7bn.
It doesn't take much to turn these markets, especially as a lot of the investment is controlled by fast-moving foreign fund managers. But the Balkans have never been easy territory for investors.