INVESTMENT OUTLOOK 2021
December 2020
VTB Capital Investments Team For Professional Investors Only
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TOP-10 Global Equities – Ahead Of Benchmark ТОP-10 Russian Equities - Ahead Of Benchmark 70 140 TOP-10 Global Equities Total Returns, % TOP-10 Russian Equities Total Returns, % 60 120 MSCI World ex-US, % MOEX Russia Total Return Index, % 50 100 40 80 30 60 20 40 10 20 0 0 -10 -20 Mar-20 Apr-20 May-20 Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20 TOP-10 May-17 Nov-17 May-18 Nov-18 May-19 Nov-19 May-20 Nov-20 Equities & TOP-10 IG Eurobonds – Ahead Of Benchmark Bonds TOP-10 HY Eurobonds – Ahead Of Benchmark 5.0 5.0 ТОП-10 IG Eurobonds Total Returns, % ТОП-10 HY Eurobonds Total Returns, % 4.0 4.0 JPM CEMBI BROAD HY Index, % JPM CEMBI BROAD IG Index, % 3.0 3.0 2.0 2.0 1.0 1.0 0.0 0.0 -1.0 -1.0 -2.0 -2.0 -3.0 Sep-20 Oct-20 Nov-20 Sep-20 Oct-20 Nov-20
Decision-making tools & Research are provided on a paid basis. To get access you need to sign the contract for the Advisory service: www.vtbcapital-broker.ru/investitsionnoe-konsultirovanie/ 4 INVESTMENT SUMMARY
. Despite the recent surge of COVID-19 cases in Europe and US we believe the absence of strict global lockdowns, accommodative monetary policy, and anticipation of massive vaccination should lead to strong economic recovery in 2021. . Yield curve in the US is gradually becoming steeper in line with our previous expectations. We think this trend will continue next year amid higher inflation, economic recovery, and anchored short-term rates. . Higher oil prices and historically low cost of borrowing should boost economic growth in Russia to 3.1% y/y next year. Consequently, inflation will remain at 4% y/y on average and the CBR may start to normalize monetary policy in 4Q21, hiking the key rate by 25 bps. . We keep our average 2021 Brent oil price forecast at USD 50 due to recovery in global economic activity. OPEC+ intends to start increasing oil production at a rate of 0.5 mbpd from January, with the aim to ease production cuts to 5.7 mbpd in April from the current 7.7 mbpd, which is negative for oil prices in the short- term.
Investment Preferences* . We are Overweight (+) on European equities, which are better positioned for a gradual rebound due to more cyclical index structure. . We are Neutral (=) on US equities, where accommodative monetary policy and an appealing fundamental growth potential balances against relatively high valuation. . We remain Overweight (+) on Russian equities (26%**). Within sectors, we prefer banks, oil&gas, steel and aviation. . We remain Neutral (=) on Russian debt as we have a better outlook on RUB bonds (6-7%**) vs Eurobonds (1- 3%**). . We keep Overweight (+) on GEM USD-denominated debt (3-5%**).
*Benchmarks: MSCI ACWI Index, BofA Merrill Lynch Bond Indices, MOEX Russia Equities and Bonds Indices (translated to USD and total return). **2021 expected total returns, depending on segments Investment Source: VTB Capital Investments research estimates 5 Outlook CONTENT
. Investment Summary . Global Investment Themes . Domestic Macro . Exchange Rates . Fixed Income: Ruble Debt . Fixed Income: Hard Currency Debt . Global Equities . Russian Equities . Sector Themes . Appendix
Investment 6 Outlook GLOBAL INVESTMENT THEMES
Investment 7 Outlook COVID-19 CASES ON THE RISE
. Globally, new cases rose to record highs with hospitalizations approaching overflow levels in many areas. Daily new cases per million, smoothed
nd . 2 wave in EU peaked following partial lockdowns in 600 Germany
November. Russia 500 . Russian 2nd wave continues with record daily cases of 25 k. United Kingdom 400 . Procedures for managing social interactions continue to United States
improve, alleviating the need for full lockdowns. 300 Reasonable certainty pandemic will be controlled 200 . Most vaccines appear to be safe and highly (>90%) effective. 100
. Pfizer could have 50 m doses available by YE 2020 and 0 over 1 bn doses by YE 2021. Several other vaccine Feb-20 Apr-20 May-20 Jul-20 Aug-20 Oct-20 Nov-20 candidates are likely to move to mass production over the next few months. Mobility indices for Russia, smoothed
. Most wealthy countries secured commitments with leading 20 vaccine developers on future supply: India and EU will get 1.6 bn doses each, USA 1 bn, UK and Canada 360 m and Japan 290 m. 0
. Vaccination will start in early 2021 with high priority groups -20 (healthcare workers and high risk patients) where we expect high rates of successful vaccination. Potential problems with mass vaccination should not emerge until -40 March 2021. -60 . Vaccination rates in developed countries may lead to a full Feb-20 Mar-20 May-20 Jun-20 Aug-20 Sep-20 Nov-20 normalization of lifestyles by YE 2021. Retail and recreation Grocery and pharmacy . Risks include manufacturing and distribution bottlenecks, Transit stations Workplaces virus mutation, and low consumer acceptance.
Investment Sources: WHO, mass media, ECDC 8 Outlook US ELECTION OUTCOMES AND MARKET IMPLICATIONS
Current political situation: . Joe Biden will be the next US president. Transition of political responsibilities to Biden’s team has already officially begun. . Next US president will be inaugurated on 20 January. We assume Biden will provide more clarity on his short-term political goals in his inauguration speech. . Last 2 Senate seats will be elected early in January. It is likely that Republicans will maintain majority. Market stance: . Divided congress will not implement any radical economic changes. Reduced political risks will support risky assets. . We expect moderately supportive fiscal policy with Senate Republicans being conservative on further stimulus. . Biden’s team is known for its hard-line approach to Big Tech regulation so we’ll be cautious on FAANG. . Key question is whether Biden will attempt to raise taxes as he promised during his political campaign. We don’t expect this to happen until US economy fully recovers in 2022.
Key taxes Prior to tax reform Post tax reform Impact impacted
Corporate tax 35% 21% 12% boost to aggregate EPS rate
Overseas profit 8-15.5% depending on the USD 1 tn repatriated profits, 35% repatriation rate category most into dividends
Investment Source: VTB Capital Investments research 9 Outlook US ECONOMY AND FED POLICY
US economy is resilient to the third wave, though monetary policy will likely remain accommodative in the short-term . US economy posted quite strong recovery from -9% YoY in 2Q20 to -2.9% YoY in 3Q20. PMIs indicate ongoing economic expansion despite the third wave (composite PMI surged to 57.9 in November).
. Nevertheless, there are some early signs of economic slowdown with the lack of new fiscal measures and increasing concerns regarding consumer confidence. As a result, the Fed might decide to ease policy further, increasing QE programs or buying less short-term bonds and more of bonds with longer duration.
. Such a decision should help to curb the rising 10-year treasury yield for some time and may support market sentiment. Nevertheless, we continue to expect a pick up of 10-year yields to 1.2 -1.3% and UST curve steepening in 2021 thanks to increasing inflation expectations and solid economic rebound.
. US inflation may accelerate to 2.5-2.6% YoY in 2Q21 given consumption recovery and low base effect of 2Q20. However, we expect US CPI to stabilize around 1.9-2.0% YoY by YE 2021.
US treasury yields have decoupled from 5Y inflation Inflation may surge next year according to expectations since April 2020 historical correlation between Brent and CPI 4 3 100 5 2.5 60 3 2 3 20 2 1.5 1 1 -20 1 UST 10Y Yield, lhs -1 0.5 -60 5Y Breakeven Inflation Rate, rhs 0 0 US CPI, % y/y, lhs Brent % y/y change, rhs
-3 -100
Jan-14 Jan-16 Jan-18 Jan-20
Sep-14 Sep-16 Sep-18 Sep-20
May-15 May-17 May-19
2005 2016 2001 2002 2003 2004 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2017 2018 2019 2020
Investment Source: Fed, Bloomberg, VTB Capital Investments estimates 10 Outlook OIL MARKET OUTLOOK
. For 2021 we assume 3 scenarios: bear: USD 40, base: USD 50, bull: USD 60. . Two main negative factors for oil prices in recent months: Libya sharply increased oil production from 0.1 to 1.12 mbpd, and the second wave led to partial lockdowns in Europe and the US, which should cause a decrease in demand of 1.2 mbpd in 4Q20, according to the IEA. . OPEC+ decided to increase production in January 2021 by 0.5 mbpd instead of the expected extension of current cuts in 1Q21. OPEC will conduct monthly assessments of the state of the market, with the intention of easing production cuts to 5.7 mbpd in April from the current 7.7 mbpd. The cuts are insufficient to offset the second wave and increased production in Libya. . Reduction of oil production in the USA by 2 mbpd (from 13 mbpd to 11 mbpd) was also one of the significant factors balancing the market. The US Department of Energy expects US production in 2021 to remain at 11.1 mbpd. . OECD oil reserves for 3Q20 declined from a maximum of 3,200 m barrels to 3,070 m barrels. We expect OECD oil inventories to bounce back by mid-2021. In the US, oil reserves are already 6% above the 5-year average. Oil product reserves in the Amsterdam-Rotterdam-Antwerp region are 30% higher than a year ago.
International petroleum supply OECD Oil Inventories, m Oil inventories and and consumption, mbdp bbls production in the US 110 8 3 300 14 600
105 3 200 6 13 550 100 3 100 4 12 500 95 3 000 2 90 2 900 11 450 0 85 2 800 10 400 80 -2 2 700 9 2 600 350 75 -4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 2 500 2020 2020 2020 2020 2021 2021 2021 2021 8 300
Feb-17 Nov-17 Aug-18 May-19 Feb-20 Nov-20
Jul
Apr Oct
Jun Jan
Feb Mar
Nov Dec
Aug Sep May World consumption Oil inventories, m bbls World supply 5-year range 2019 Surplus/deficit (+/-), right scale 2020 2021 Oil production, mbpd, right scale Investment Sources: VTB Capital Investments, US Department of Energy, IEA, Refinitiv, J.P. Morgan, ERCE 11 Outlook OIL MARKET OUTLOOK (2)
. China used ultra-low prices in April-May to replenish reserves, but towards the end of 2020 China's imports fell from a peak of 53 m tonnes per month to 42.5 m tonnes. But since China's refining volumes are not falling and have grown to 60 m tonnes per month, we can expect a recovery in oil demand from China. . The Asian region and Latin America were not affected by the second wave. Oil demand has recovered or almost recovered in China, India, Japan, Brazil. Oil demand in China in 4Q21 should exceed 4Q19 levels by 0.61 mbpd. Oil demand in Europe in 4Q21 may be below 4Q19 levels by 0.64 mbpd, in the USA - 0.32 mbpd lower according to the US Department of Energy. . Joe Biden's victory in the US presidential election in the short term is rather positive for oil prices, as his environmental agenda will sooner lead to various restrictions on oil production and transportation and later aim to support the consumption and production of renewable energy sources. The lifting of sanctions on Iran could add 2 mbpd to the market, but Biden demanded that Iran first return to fulfilling the terms of the 2015 nuclear agreement; the negotiation process to lift the sanctions could take a long time. . We expect the USD to continue to decline in 2021, which should support oil prices. . Main risks: slowdown in economic growth due to uncontrolled development of the pandemic, the introduction of more stringent restrictive measures, and insufficient effectiveness of vaccines compared to expectations.
ARA petroleum products total Monthly import and refining of Petroleum consumption in inventories, tonnes m crude oil by China, tonnes m selected countries, mbpd 22 8.0 65 import refining US Europe China 60 7.5 20
55 7.0 18 50 6.5 16 45 6.0 14 40
5.5 12 35
5.0 30 10
4.5
Jul-17 Jul-18 Jul-19 Jul-20
Apr-17 Oct-17 Apr-18 Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jan-18 Jan-19 Jan-20
Dec 04 Jun 04 Dec 04 Jun 04 Dec 04 Jan-17
4Q 2019 4Q 2020 1Q 2020 2Q 2020 3Q 2020 4Q 2021 1Q 2021 2Q 2021 3Q 2021 4Q
Investment Sources: VTB Capital Investments, US Department of Energy, IEA, Refinitiv, J.P. Morgan, ERCE 12 Outlook DOMESTIC MACRO
Investment 13 Outlook 2020-2022 MACRO PROJECTIONS
We upgraded our 2020F GDP forecast from -4.2% YoY to -3.8% YoY and still expect strong economic recovery in 2021
Russian Economy – Scenarios and Forecasts 2020/21 Forecast Scenarios 2021 Consensus SCENARIO 2018 2019 2020 F 2021 F 2022 F Bear Case Base Case Bull Case 2020 2021 2022 Crude oil price, average, USD/bbl 70 62 42,7 50 55 40 50 60 Scenario probability, % 30% 50% 20% KEY INDICATORS 2018 2019 2020 F 2021 F 2022 F Bear Case Base Case Bull Case 2020 2021 2022 Real GDP, % YoY 2,5% 1,3% -3,8% 3,1% 2,6% 1,3% 3,1% 4,1% -3,9% 3,0% 2,4% Industrial production, % YoY 2,9% 2,4% -3,2% 3,7% 3,0% 1,6% 3,7% 4,4% -3,8% 3,8% 2,5% Private consumption, % YoY 2,6% 1,6% -6,3% 3,3% 2,9% 1,6% 3,3% 3,8% -6,3% 4,3% 3,0% PRICES 2018 2019 2020 F 2021 F 2022 F Bear Case Base Case Bull Case 2020 2021 2022 CPI, % average per year 2,9% 4,5% 3,3% 4,0% 4,1% 5,0% 4,0% 4,3% 3,3% 3,6% 3,8% CPI, % December YoY 4,3% 3,0% 4,6% 3,7% 4,0% 4,8% 3,7% 4,1% POLICY 2018 2019 2020 F 2021 F 2022 F Bear Case Base Case Bull Case 2020 2021 2022 CBR Key Policy Rate,%, eop 7,75% 6,25% 4,25% 4,50% 5,00% 5,25% 4,50% 4,50% 4,25% 4,00% 4,50% Federal budget revenues, RUB bn 19 455 20 188 17 976 19 368 20 724 20 485 19 368 20 899 Federal budget expenditure, RUB bn 16 713 18 220 22 627 21 600 21 900 23 348 21 600 22 790 Federal budget general Def.(-)/Surp.(+), % of GDP 2,5% 1,8% -4,1% -1,9% -0,9% -2,5% -1,9% -1,5% -4,4% -2,5% -1,1% RESERVES, TRADE, FX 2018 2019 2020 F 2021 F 2022 F Bear Case Base Case Bull Case 2020 2021 2022 Gross international reserves (GIR), USD bn, eop 468 554 581 616 622 570 616 628 Trade balance, USD bn 194 165 82 119 121 114 119 125 USDRUB exchange rate, eop 69,5 61,9 74,0 72,5 70,0 88,0 72,5 67,0 . Business activity in Russia is steadily recovering despite the second wave. GDP decline should be less than -4% in 2020 followed by a solid rebound in 2021. . Pro-inflationary risks should prevail in the short-term given recent RUB depreciation and increasing food prices. . We keep our view that monetary easing in Russia has ended and the CBR may even hike the key rate in late 2021. . We continue to expect a stronger RUB in 2021 given risk sentiment improvement and oil prices recovery.
Investment Sources: CBR, Federal State Statistics Service, Ministry of Finance, VTB Capital Investments research estimates 14 Outlook COVID-19 AND LEADING INDICATORS
Internal demand in Russia seems to be resilient despite the recent surge of COVID-19 cases . The number of daily COVID-19 cases in Russia has surged to more than 28,000/day in mid-December, with the number of new deaths reaching all time highs of ca. 500/day. . The Moscow Mayor has announced additional restrictions that include closing restaurants, cafes and clubs at night; limiting the number of attendees at an event to 25% of the venue’s capacity, etc. We do not expect these measures to have a significant impact on the overall economy. . According to CBR data, even though incoming payments in some consumer sectors are declining, the targeted nature of restrictive measures allows maintaining a stable level of payments in these sectors as a whole. This is explained by the shifting demand from service categories as well as closed borders that incentivize people to buy non-durable goods.
The government is unwilling to impose strict The deviation of incoming payments (sectoral financial measures despite massive second wave flows) from normal levels 100 35 000 20% 30 000 80 25 000 10%
60 20 000 0% 15 000 40
10 000 -10% 20 5 000 -20% 0 0 Household Investments Government Export Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 consumption consumption 12-16 oct 19-23 oct 26-30 oct 2-6 nov Stringency index (100 = strictest), lhs 9-13 nov 16-20 nov 23-27 nov New COVID-19 cases, rhs
Investment Sources: ECDC, University of Oxford, CBR 15 Outlook GDP & ECONOMIC ACTIVITY
GDP contracted 3.6% YoY in 3Q20, rebounding from its 8% YoY drop in 2Q20 on the back of more confident households . We believe consumption-oriented sectors were the main drivers of the rebound: retail sales turnover climbed from - 22.6% YoY in April to just -2.4% YoY in the latest data for October. . Imports of machinery and equipment (investment activity proxy) have sprung back from -21.6% YoY in April to +6.4% YoY, which points toward a pickup in investments as well. . Interestingly, household propensity to save fell in 3Q20, stabilizing from enormously high levels in the midst of a pandemic. Thus, the pandemic may not have a long-lasting effect on consumer confidence as broadly believed among analysts. . We think the pace of recovery will stall in 4Q20, as the COVID-19 situation will likely act as a drag on mobility and services consumption. However, we expect economic growth to exceed 3% in 2021 thanks to oil price recovery and historically low interest rates. Base industry output (GDP proxy) still suffers from Households saving rate, % of income depressed industrial production 20 6%
15 2%
10 -2% Other Retail sales 5 -6% Industrial production Agriculture Construction 0 Base industries output
-10%
I 2016 I 2017 I 2018 I 2019 I 2020 I
Jan-19 Apr-19 Jul-19 Oct-19 Jan-20 Apr-20 Jul-20 Oct-20 2015 I
II II 2015 II 2016 II 2017 II 2018 II 2019 II 2020
III2015 III2016 III2017 III2018 III2019 III2020
IV2015 IV2017 IV2018 IV2019 -5 IV2016
Investment Source: CBR, Rosstat, VTB Capital Investments estimates 16 Outlook FEDERAL BUDGET
The scope of budget consolidation over the next year may turn out to be less visible
. The federal budget is on track to widen from RUB bn 2018 2019 2020E 2021E 2022E RUB 1.8 tn in 10M20 to RUB 4.7 tn in 2020, Revenue 19 454 20 188 17 976 19 368 20 724 taking into account the seasonality pattern and of which Oil/gas 9 018 7 924 4 776 6 288 6 780 coming increase of spending in December. of which all other 10 437 12 264 13 200 13 080 13 944 . The main bulk of the expected deficit will be Oi/gas change 51% -12% -40% 32% 8% covered by borrowing, which has already taken Brent Ruble 4 478 4 167 2 960 3 571 3 850 place. The Finance Ministry has borrowed gross RUB 5.2 tn and net RUB 4.5 tn through placing local currency bonds (OFZ) YTD. Expenditures 16 713 18 220 22 627 21 600 21 900 Real growth -2,5% 6,0% 20,9% -8,7% -2,7% . Federal budget to remain in deficit over the
coming years despite gradual fiscal Balance 2 741 1 968 -4 651 -2 232 -1 176 consolidation. The deficit will be covered mainly by domestic borrowings. Thus, the MinFin will try Balance, % GDP 2,7% 1,8% -4,1% -1,9% -0,9% to place ca. RUB 3.5 tn of government bonds Public debt (% of GDP, 2020, IMF forecast) (gross) next year. It should not put any upward 300 pressure on OFZ yields. 250 . Nevertheless, Russian government debt to GDP ratio will remain one of the lowest in the world. 200 Russian Federation . We also would like to point out that the government proposed to ease regulatory 150 requirements for market borrowing at the regional level. This may lead to decoupling 100 between the balances of the federal and regional budget, limiting the scope of fiscal consolidation 50 and supporting economic activity.
0
ITA
FIN
ISR
IDN IND
JPN
EST KAZ
PHL
CZE THA FRA PRT
CHL POL ESP
SAU ARE TUR AUS QAT COL BRA USA
RUS DNK UKR DEU EGY CAN BHR SGP
HKG CHN MEX MYS ARG GBR
NOR GRC OMN
Investment Source: MinFin, IMF, VTB Capital Investments estimates 17 Outlook INFLATION & KEY RATE PROJECTION
The surge in inflation will force the CBR to keep the key rate unchanged in the short-term
. Inflation reached 4.4% YoY in November, Russian and global (in RUB terms) food prices, YoY overshooting the CBR target for the first time since
August 2019. 70% UN Food and Agriculture 25% 60% Prices Index, RUB, y/y, lhs . The significant drivers of acceleration in the food 20% segment are sugar (+65% YoY) and sunflower oil 50% Food inflation in Russia, (+24% YoY) while an upward surge in prices for non- 40% y/y, rhs 15% food goods is driven by recent RUB depreciation. 30% 10% 20% . We believe that headline inflation may reach 4.5- 4.6% YoY by YE 2020 which will force the CBR to 10% 5% keep the key rate unchanged in the short-term unless 0% 0% Russia experiences another significant lockdown -10% shock. -20% -5% . We keep our long term forecast and expect a first rate hike in 4Q21 in our base case scenario. Strong economic recovery, solid credit expansion, Money market expects a key rate hike by YE 2021 historically low interest rates and increasing inflation 5.2 expectations may keep price growth at levels of ca. 4% next year in contrast to consensus view of a broad based disinflation. 5
. If consumer demand weakens significantly or budget 4.8 consolidation turns out to be tighter then inflation may not reach the 4% goal next year. Thus, the CBR will 4.6 keep the key rate unchanged at 4.25% until 2Q22.
. In our bear case, financial stability risks will increase 4.4 given sharp RUB depreciation. As a result, the CBR FRA 6x9 FRA 9x12 FRA 12x15 will have to hike the key rate to 5.25% in 2021. 4.2 8-Jul 25-Jul 11-Aug 28-Aug 14-Sep 1-Oct 18-Oct 4-Nov 21-Nov 8-Dec
Investment Source: CBR, Bloomberg, VTB Capital Investments estimates 18 Outlook EXCHANGE RATES
Investment 19 Outlook EURUSD OUTLOOK
. We raise our 2021 forecast from 1.23 to 1.25 due to a faster-than-expected global economic recovery and stronger risk appetite. . Long-term correlation between 2-year rates in the USA and Germany and the EURUSD rate shows that the fair EUR rate is now ca. 1.30. A massive revaluation of the fair exchange rate occurred after the Fed's sharp rate cut in March 2020. . In the mid-term, the EURUSD may significantly deviate for a long time (more than one year). For example, during periods of decline in global economic activity, the USD is in high demand as a safe-haven currency. . The Eurozone economy is able to withstand an expensive EUR only during periods of strong economic growth. This is not the current situation. A slight slowdown in recovery due to the second wave also supports the USD. . In December 2020, for the first time since August the EURUSD moved above 1.15-1.20. The movement looks premature, as EURUSD is likely to return below 1.20 by YE 2020. A second USD devaluation event is possible when, after the adoption of the second stimulus package in US, money from government spending will again begin to flow into the economy (in 2Q21). . The ECB's balance is growing faster than the Fed's balance. At the meeting on 10 December, the ECB is expected to increase the quantitative easing program by EUR 500 bn, which may put short-term pressure on the EUR.
Correlation between EURUSD and the ECB and Fed total assets difference between US and German rates 3.00 1.7000 9.00
2.00 1.6000 8.00
1.00 1.5000 7.00
0.00 1.4000 6.00 -1.00 1.3000 5.00 -2.00 1.2000 4.00 -3.00 1.1000 3.00 -4.00 1.0000 Mar-19 Jun-19 Sep-19 Dec-19 Mar-20 Jun-20 Sep-20 Dec-20 2003 2006 2009 2012 2015 2018 Difference in yields of 2-year German and US bonds ECB total assets, USD tn Fed total assets, USD tn EURUSD rate (scale on the right) Investment Sources: VTB Capital Investment, Refinitiv, Reuters 20 Outlook EM FX AND RISK SENTIMENT
We keep our view that EM currencies may strengthen vs USD thanks to reflationary environment
EM FX may catch up with DM currencies in 2021 . The yearly change of EM currencies 30% (on average from 12 countries) is Mean EM12 vs. USD (YoY change) correlated with the reversed change of DXY (right hand chart). In our 20% Majors vs. USD (reverse DXY, YoY change) latest strategy we pointed that EM FX may catch up with DM currencies in the mid-term. 10%
0% . Since then EM currencies strengthened vs the USD and the mean EM FX change has recovered -10% from -10% YoY to ca. -6% YoY. Nevertheless, the gap between EM and DM currencies vs the USD has -20% widened. This gap will likely be closed by stronger EM FX over the -30% coming year. 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
EM vs. DM residual 20% . Economic rebound and international trade recovery should boost exports 10% from EM countries while rising risk sentiment will result in capital 0% 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 inflows. These two factors may support EM currencies in 2021. Below = EM FX is undervalued -10% -20%
Investment Source: Bloomberg, VTB Capital Investments estimates 21 Outlook USDRUB EXCHANGE RATE
We see some room for further RUB appreciation thanks to risk sentiment improvement in 2021
. The RUB has recently fluctuated in the same Current account, USD bn, average for every quarter since direction with other EM currencies. Recent surge in 2000 risk sentiment has already helped the RUB to 25 appreciate from USDRUB 80.5 in late October to ca. Seasonal increase of current account 73.5 by mid-December in line with our previous 20 in 1Q21 may support the RUB expectations. 15 . For 2021, we keep our base case forecast at 72.5. Oil price recovery and risk sentiment improvement 10 should support the RUB. However, the premium for geopolitical uncertainty may keep the RUB at levels weaker than the fundamental value of 66-68, 5 especially after Biden’s victory on US presidential elections. 0 Q1 Q2 Q3 Q4
. In our bear case scenario sanctions against Russian RUB and other EM FX (Index, Jan 2020 = 100) OFZs and oil price drop may bring the USDRUB to 88, increasing inflationary pressure and negatively affecting economic growth. We believe the probability 100 of this scenario is ca. 30%.
. On the other hand, the RUB may get a tailwind from 90 faster-than-expected risk sentiment improvement and oil price increase to USD 60/bbl in our bull case 80 scenario (20% probability). This should help the RUB to reach ca. 67. 70 RUB . International reserves are at ca. USD 590 bn and Other commodity EM FX (MXN, BRL, CLP, ZAR) Non-commodity EM FX (TRY, CNY, IDR, THB, INR, PLN, CZK) government debt is still low compared to other EM 60 countries. Thus, fundamentals could help the RUB Feb-20 Apr-20 Jun-20 Aug-20 Oct-20 Dec-20 catch-up to non-commodity EM FX peers.
Investment Source: Bloomberg, VTB Capital Investments estimates 22 Outlook USDRUB FAIR VALUE BASED ON OIL PRICE
Oil price, USD/bbl USDRUB
USDRUB and oil price since Jan 2001 85 50.1
110 80 51.9
75 53.8 100 70 55.9 90 Current value y = -28.88ln(x) + 178.48 65 58.0 R² = 0.8444 80 60 60.4
70 55 62.9
60 50 65.7
45 68.8
USDRUB in real terms, eop terms, real in USDRUB 50 40 72.3 40 35 76.2 30 30 80.8
20 25 86.1 0 25 50 75 100 125 150 Average oil price, USD/bbl 20 92.7
15 101.1
Investment Source: CBR, VTB Capital Investments estimates 23 Outlook FIXED INCOME: RUBLE DEBT
Investment 24 Outlook RUBLE BONDS: EXPECTED RETURNS
. We remain neutral on OFZs due to CBR mid-term monetary policy normalization.
. Our baseline scenario implies no more rate cuts. The CBR may start hiking the key rate in 4Q21 up to 4.5% to keep inflation at the 4% targeted level.
. Corporate credit spreads keep slightly above their historical average of ca. 80-150 bps (excluding extremums).
. We estimate RUB bond total returns of ca. 6.1-6.3% p.a (MOEX Indexes), depending on the segment: OFZ MOEX Index (duration 5.1 years) – ca. 6.1% p.a. Corporate Bonds MOEX Index (duration 2.5 years) – ca. 6.3% p.a.
Current OFZ YTM Fair Value decomposition, MOEX Ruble Bonds Bear Base Bull Value Index 8.0% Corporate Bonds Z-spread to OFZ, bps 135 200 100 70 6.4% 5.6% 5.8% 6.0% 5.5% Weighted Average Duration, years 0.5% OFZ (Moex Index) 5.1 5.1 5.1 5.1 0.4% 4.0% 0.3% 0.7% Corporate Bonds (Moex Index) 2.8 2.8 2.8 2.8
Target Yield-to-Maturity RUB terms, % 4.8% 2.0% 4.0% 3.8% 4.1% OFZ (Moex Index) 5.6% 6.4% 5.5% 5.8% Corporate Bonds (Moex Index) 6.1% 8.1% 6.0% 5.9% 0.0% Expected Total Return RUB terms, % per annum Current Bear Base Bull OFZs (Moex Index) 2.5% 6.1% 4.9% -2.0% Corporate Bonds (Moex Index) 2.6% 6.3% 6.5% Bear case premium OFZ Slope 1Y-10Y, adjusted* % Average Expected Return RUB terms, % per annum 2.5% 6.2% 5.7% OFZ Slope 1Y-Key Rate % CBR Key Rate, real terms % Scenario probability, % 30% 50% 20% *SlopeCPI adjusted (2021F), to % reference YoY OFZ index RGBI Index YTM, Fair value %
Investment Sources: Moscow Exchange, VTB Capital Investments research estimates 25 Outlook OFZ YIELD CURVE ESTIMATES AND TOTAL RETURNS
OFZ Yield Curve 2021 Estimates – CBR will likely hike the key rate up to 4.50% close to YE 2021. . OFZ yields will likely reflect expectations of a possible CBR key rate hike by 25 bps up to 4.50% in 4Q21. . The OFZ yield curve might become flatter as short-term OFZ yields grow in line with CBR key rate hikes. . The current OFZ Yield Curve has already priced in the CBR’s pause in monetary easing. Moreover, 7Y-20Y OFZ yields reflect a possible start of policy normalization to the neutral level in 2022.
In this case, Mid-term OFZs look rational in terms of expected total returns above 7% p.a. with less risk of volatility. OFZ: 2021 Expected Total Returns Short-term Mid-term Long-term 1-5Y 6-9Y 10-20Y 6.0-6.5% 7.0-7.8% 7.5-8.3%
OFZ Yield Curve Estimates 2021, % OFZ Yield Curve Estimates 2022, % 7.5 7.5 Current OFZ Yield Curve (as of December 8, 2020) Current OFZ Yield Curve (as of December 8, 2020) Normalized Yield Curve (after rate hikes up to 4.5%) Normalized Yield Curve (after rate hikes up to 5.0-5.5%) 7.0 7.0
6.5 6.5
6.0 6.0
5.5 5.5
5.0 5.0
4.5 4.5
4.0 4.0
3.5 3.5
3.0 3.0 1Y 2Y 3Y 4Y 5Y 8Y 9Y 10Y 15Y 20Y 1Y 2Y 3Y 4Y 5Y 8Y 9Y 10Y 15Y 20Y Investment Sources: CBR, Bloomberg, VTB Capital Investment Management research estimates 26 Outlook OFZ YIELD CURVE CHANGES
. During 2020, OFZ yield decline was ca. 25-110 bps (YTD) to 4.4-6.3% due to the CBR’s 200 bps key rate cuts to 4.25% from February until July 2020, keeping further room for monetary easing. Impressive MinFin auctions in 4Q20 (borrowing plan RUB 2 tn exceeded by 12%) didn’t concern the market, given the ministry adjusted borrowing tactics with a high share of OFZ floaters.
. In 4Q20, short-term OFZ yields increased up to 4.4% (above the CBR key rate) mainly when liquidity surplus hit new lows (RUB 0.2-0.3 tn in Nov. vs RUB 1.4-2.1 tn in 3Q20). The situation is likely to change closer to YE 2020 when budget spending starts to enter the banking system in greater flows.
. During 2020, the OFZ yield curve slope became steeper with the 10-year OFZ yield 137 bps above the 2-year OFZ (+65 bps YTD) with peak levels ca. 170 bps in Aug-Sep 2020.
OFZ Yield Curve Rates, % OFZ Yield Curve Slope bps 8,0 Changes, bps 09.01.2020 08.12.2020 810 200 7,5 180 7,0 160 6,5 610 140 6,0 6,3 6,3 120 5,5 5,7 5,8 100 410 5,0 5,2 80 4,5 5,0 4,5 4,4 4,8 60 40 4,0 CBR Key Rate 210 3,5 20 3,0 0 -20 2,5 10 -40 OFZ 5Y vs OFZ 2Y -20 -26 2,0 -54 -54 -86 -76 -60 OFZ 10Y vs OFZ 2Y 1,5 -104 -109 -93 -190 -80 OFZ 10Y vs OFZ 5Y 1,0 -100 0,5 -120 0,0 -390
1Y 2Y 3Y 4Y 5Y 8Y 9Y 10Y 15Y
Jul-17 Jul-18 Jul-20
Apr-18 Oct-20 Apr-17 Oct-17 Oct-18 Oct-19 Apr-20
Jan-18 Jun-18 Jun-19 Jan-20
Feb-17 Mar-18 Feb-19 Mar-19 Feb-20
Nov-19 Dec-16 Aug-17 Nov-17 Sep-18 Dec-18 Aug-19 Sep-20 Dec-20
May-17 May-19 May-20
Investment Sources: CBR, Bloomberg, VTB Capital Investment Management research estimates 27 Outlook SOVEREIGN BONDS: LOCAL MARKET COMPARISON
. Slopes of some local currency markets with comparable IG-ratings and CDS levels (Indonesia, Colombia, Chile) are steeper than Russian OFZ with 10Y bonds yielding 200-300 bps above 2Y bonds.
. Compared to peers, Russia has robust macroeconomic fundamentals, solid FX reserves, and low government debt. Based on these indicators, the OFZ yield curve slope should be flatter (at least 130 bps vs. current 137 bps).
. In 2021, we expect that the OFZ yield curve might become flatter due to weakening external risks, also reflecting possible start of monetary policy normalization to the neutral level in 2022 (CBR key rate at 5.0-5.5%).
Local Currency GEM Bonds Slope (10Y vs 2Y) GEM CDS (5 yrs) & Sovereign Credit Ratings bps bps 450 600 550 500 400 450 Turkey 400 350 350 300 300 250 200 250 150 S.Africa 100 200 50 Brazil 0 -50 150 -100 Colombia 100 Mexico Saudi Arabia
Russia Indonesia
Apr-18 Oct-18 Oct-19 Apr-20 Oct-20 Apr-19
Jun-18 Jun-19 Jun-20
Feb-18 Feb-19 Feb-20
Dec-17 Dec-20 Dec-18 Dec-19
Aug-19 Aug-20 Aug-18 50 China Philippines Chile
Russia (Ваа3/ВВВ-/ВВВ) Indonesia (Ваа2/ВВВ/ВВВ) 0
B A
B- A-
B+ A+
Mexico (Ваа1/ВВВ/ВВВ-) South Africa (Ва2/ВВ-/ВВ-) BB
BB-
BB+
BBB
BBB- BBB+ Chile (А1/А+/А) Colombia (Baa2/BBB-/BBB-) CCC+
Investment Sources: CBR, Bloomberg, VTB Capital Investment Management research estimates 28 Outlook EM REAL RATES & CARRY TRADE
Even though the real rate in Russia is not the highest among EM peers, RUB carry trade still looks attractive given strong macro fundamentals and expected RUB appreciation 10Y government bond real yields, % . The 10Y real rate in Russia looks less attractive than in many other EM countries. Nevertheless, 5 Difference between 10y treasury bond yield and even though real rates in South Africa, Indonesia, 4 expected CPI for 2021 (Bloomberg consensus) Brazil, Colombia and Mexico are higher, strong macro buffers and low government debt excel 3 Russia from peers. 2
. Geopolitics will be the main risk for carry trades in 1 RUB next year. The difference of volatility 0 between the RUB (implied from 3M ATM options) and other EM currencies (on average) has -1 recently decreased but remains elevated.
CA balance in 2020, % of GDP . The current account in Russia has so far been 3 positive in 2020 despite the reduction of oil prices and overall drop of external demand. The surplus 2 is mainly explained by the reduction of abroad Bloomberg consensus for 2020 tourism. Consequently, external position of Russia 1 continues to be one the strongest among EM peers. 0
. In the long-term, lower GDP decline (-3.8% in -1 2020), low government debt (less than 20%), and international reserves that exceed total external -2 debt by more than 20% as well as expected RUB appreciation over the next year should favor carry -3 trades in Russia. -4
Investment Sources: Bloomberg, VTB Capital Investments estimates 29 Outlook OFZ CPI-LINKERS LOOK CHEAP
Inflation acceleration by YE 2020 increases OFZ-Linker attractiveness . As of December 2020, breakeven inflation rate (BEI) and real Yields for OFZ CPI-Linkers:
OFZ 52001 (2Y CPI-Linker) – 3.1% and 1.7% accordingly;
OFZ 52002 (7Y CPI-Linker) – 3.2% and 2.4%.
. The current pricing of CPI-Linkers in comparison with Fixed-Rate OFZs reflect market expectations of a low level of long- term inflation (below the CBR’s target of 4%). CPI acceleration by YE 2020 increases OFZ-Linker attractiveness.
. With CPI at the CBR’s target of 4%, real yields of OFZ 52001 (2Y) and OFZ 52002 (7Y) should be at 0.8% and 1.6% accordingly.
OFZ 26215 vs OFZ 52001 OFZ 26212 vs OFZ 52002 9.0% 9.0%
8.0% 8.0%
7.0% 7.0%
6.0% 6.0%
5.0% 5.0% Breakeven inflation - 3.1% (Dec 2020) Breakeven inflation - 3.2% (Dec 2020) 4.0% 4.0% CBR CPI target CBR CPI target 3.0% 3.0%
2.0% 2.0% OFZ 26212 (7Y Fixed-Rate), YTM 1.0% OFZ 52001 (2Y CPI-Linker), Real Yield 1.0% OFZ 52002 (7Y CPI-Linker), Real Yield OFZ 26215 (2Y Fixed-Rate), YTM
0.0% 0.0%
Jul-20
Jul-19
Jul-20
Oct-20
Apr-20
Oct-19
Apr-20
Oct-20
Jun-20
Jan-20
Jan-20
Jun-20
Mar-20
Feb-20
Feb-20
Mar-20
Dec-20
Nov-20
Sep-20
Aug-20
Dec-19
Nov-19
Aug-19
Sep-19
Nov-19
Dec-19
Aug-20
Sep-20
Nov-20
Dec-20
May-20 May-20
Investment Sources: CBR, Bloomberg, VTB Capital Investment Management research estimates 30 O utlook OFZ-FLOATERS TO HEDGE INTEREST RATE RISK
Given the expectations on mid-term CBR policy normalization, OFZ-floaters might be the perfect market instrument to hedge from increasing interest rate risk . During 2020, the Minfin significantly increased amount of OFZ-floaters outstanding. This type of government security boosted OFZ primary placements, where share of floaters was above the 80% average since September 2020. High demand primarily from local banks was driven by the ending of the CBR monetary cycle and increased expectations of key rate normalization.
. Based on current observed RUONIA forward curve and some calculations, short-term and mid-term OFZ-floaters (5-6 year tenor) assume an indicative premium of ca. 20-25 bps to OFZ fixed peers in terms of implied yield, while long-term OFZ- floaters (i.e with maturity 8 years and over) trade at a discount of 10-15 bps.
. OFZ-floaters might be a good form of diversification in an investor’s portfolio. Besides the ability to hedge against interest rates, these bonds are typically less volatile compared to “vanilla” OFZ with bullet payments.
OFZ Benchmark Floaters Dynamic, % % RUONIA Forward Curve Market Estimates 102 6.5 102 101 101 6.0 100 100 99 99 5.5 Implied Yield Premium / (Discount) 98 to OFZ Fixed Peers 98 97 3Y OFZ 5.0 22 97 Float 96 5Y OFZ 25 96 Float 4.5 95 95 8Y OFZ (14) 94 Float 4.0 CBR Key Rate 94 11Y OFZ (9) 93 Float 93 3.5 92
0.0 2.0 4.0 6.0 8.0 10.0
Jul-20
Apr-20 Oct-20
Jun-20
Mar-20
Sep-20 Nov-20 Dec-20
Tenor (in years) Aug-20 May-20 Investment Sources: MOEX, Bloomberg, VTB Capital Investment Management research estimates 31 O utlook RUBLE CORPORATE SPREADS BY CREDIT RATING
. BBB/BB/B corporate credit spreads consolidated, but still have some premium above historically average levels. BBB- rated bonds trade with G-spreads below 100 bps, while BB-rated and B-rated bonds seem converged with ca. 165-170 bps and 190-200 bps, respectively.
. Compared to OFZ yield curves, RUB-denominated reliable corporate bonds still remain attractive. We prefer BBB/BB corporate bonds with duration up to 3 years and G-spreads over 120-150 bps.
. BBB-rated bonds of top Russian metallurgical and mining (M&M) and transportation companies look expensive, while BBB-rated TMT, BB-rated M&M and Machinery, as well as BB-rated Retail and Energy&Utilities seem attractive in terms of G-spread vs duration relation.
Local Corporate Bonds G-Spread, bps Local Corporate Bonds Industry Map G-Spread, bps 425 500 400 Real Estate 375 Cbonds-CBI RU BBB/ruAA- G-Spread 450 350 Cbonds-CBI RU BB/ruBBB G-Spread 400 325 Cbonds-CBI RU B/ruB- G-Spread Telecoms 300 350 Retail 275 Transportation 300 250 Machinery 225 250 200 Real Estate Leasing O&G 175 200 M&M Energy & Utilities 150 Machinery M&M Transportation 150 Transportation 125 Retail Chemistry 100 Telecoms 100 Chemistry Leasing M&M O&G 75 Telecoms 50 50 Energy & Utilities Duration, yrs 25 0 0
0.5 1.0 1.5 2.0 2.5 3.0 3.5 4.0
Jul-19 Jul-20
Apr-19 Apr-20 Oct-20
Oct-19 BBB BB B
Jan-19 Jun-19 Jan-20 Jun-20
Feb-19 Mar-19 Feb-20 Mar-20
Dec-19 Nov-18 Dec-18 Nov-19 Nov-20 Dec-20
Aug-19 Sep-19 Aug-20 Sep-20
May-19 May-20
Investment Sources: Bloomberg, Cbonds, VTB Capital Investments research estimates 32 Outlook FIXED INCOME: HARD CURRENCY DEBT
Investment 33 Outlook RUSSIAN EUROBONDS: EXPECTED RETURNS
. In 2020, in face of the coronavirus pandemic the Fed cut the policy rate by 150 bps to 0-0.25% and announced unlimited purchases of treasuries, mortgage backed securities, corporate bonds, and ETFs.
. In August 2020, the Fed announced it’s new monetary policy strategy of “Average Inflation Targeting.”
. The Fed’s monetary policy changes and expected global economic recovery in 2021 triggered a revision in our estimates for the USD interest rate trajectory. We now see the 10Y UST yield at 1.25% in 2021 base case vs current 0.9%.
. Our baseline 2021 scenario suggests Russian Eurobonds’ total returns at ca. 0.7-2.7%, depending on the segment: Sovereign Eurobonds (GDRU Index) (duration 9.4 years) – ca. 0.7% p.a. Corporate Eurobonds (IG / HY Indexes) (duration 3.6 / 3.0 years) – ca. 1.2% / 2.7% p.a.
Current Sovereign Eurobonds YTM Fair Value Russian Eurobonds Bear Base Bull Value 3.5% decomposition, BofAML Index Govt OAS Spreads, bps 2.9% Sovereign Eurobonds (GDRU Index) 176 190 110 80 3.0% 2.7% 2.5% 2.5% Investment Grade Corporate (ERUI Index) 178 270 140 130 2.5% 0.8% High Yield Corporate (ERUH Index) 245 470 250 230 1.8% 1.1% Weighted Average Duration, years 2.0% Sovereign Eurobonds (GDRU Index) 9.4 9.4 9.4 9.4 1.9% Investment Grade Corporate (ERUI Index) 3.6 3.6 3.6 3.6 1.5% High Yield Corporate (ERUH Index) 3.0 3.0 3.0 3.0 Target Yield-to-Maturity on a 12m horizon, % 1.0% 10-year US Treasury Bonds 0.9% 0.5% 1.3% 1.7% Sovereign Eurobonds (GDRU Index) 2.5% 2.5% 2.7% 2.9% 0.5% 0.25% 0.25% 0.25% 0.25% Investment Grade Corporate (ERUI Index) 1.9% 3.0% 2.2% 2.3% 0.0% High Yield Corporate (ERUH Index) 3.0% 5.0% 3.2% 3.2% Current Bear Base Bull Expected Total Return USD terms, % per annum -0.5% Sovereign Eurobonds (GDRU Index) 2.0% 0.7% -0.9% OAS Spread, % Investment Grade Corporate (ERUI Index) -1.0% 1.2% 0.8% UST Slope 1Y-10Y, adjusted* % High Yield Corporate (ERUH Index) -0.9% 2.7% 2.6% UST Slope 1Y-FOMC Rate % Average expected return USD terms,% per annum 0.0% 1.5% 0.8% FOMC policy rate % Scenario probability, % 30% 50% 20% Russia Sovereign YTM (GDRU Index), Fair value % * Slope adjusted to reference Sovereign Bond index Investment Sources: BofAML, VTB Capital Investments research estimates 34 Outlook RUSSIAN EUROBONDS YIELD CURVE ESTIMATES
. In 2021, the Russian sovereign Eurobond yield curve will likely increase in line with UST curve due to global economy recovery and inflation growth expectations.
. Russian Eurobonds will likely not entirely reflect the UST yield curve shift since current spreads are at extended historic levels (BofA Indexes).
. The slope of the Russian sovereign yield curve will probably become steeper, following by benchmark yield curve indicators. In this case, Russian Eurobonds expected total returns will likely not exceed ca. 1.0-2.25% p.a along the curve.
. Since Russian corporate Eurobond G-spreads are relatively tight we expect corporate yields to change in line with the sovereign Eurobond curve. Thus, IG-segment total returns might be ca. 1.5-3.0%, while HY-segment up to ca. 2.0-4.2% p.a. Mid-term corporate Eurobonds are better positioned by yield-to-risk ratio.
Russia Yield Curve 2021 Estimates, % Russian Sovereign&Corporate Eurobonds 5.00 Russia Eurobonds Yield in (December 8, 2020) BofA Indexes spreads (OAS), bps 4.75 750 4.50 UST Curve (December 8, 2020) 700 Russian Sovereign Eurobonds 4.25 UST Curve Estimates 2021 (duration 9.44 years) 4.00 650 Russia Eurobonds Yield Curve Estimates 2021 Russian IG Corporate Eurobonds 3.75 600 (duration 3.61 years) 3.50 550 Russian HY Corporate Eurobonds 3.25 500 (duration 2.97 years) 3.00 450 2.75 400 2.50 350 2.25 2.00 300 1.75 UST-10 250 expetcted 1.50 Yield 200 1.25 150 1.00 100 0.75 50 0.50 0.25 0 0.00
1Y 3Y 5Y 10Y 15Y 20Y 30Y
Apr-17 Apr-18 Oct-18 Apr-19 Oct-19 Oct-20 Oct-17 Apr-20
Jun-17 Jun-18 Jun-20 Jun-19
Feb-18 Feb-20 Feb-19
Aug-17 Dec-17 Aug-18 Dec-18 Aug-19 Dec-19 Aug-20 Dec-20
Investment Sources: BofAML, Bloomberg, VTB Capital Investments research estimates 35 Outlook CORPORATE LEVERAGE AND CREDIT SPREADS
. Despite high geopolitical risk in 2014-2016, Russian corporates have managed to keep key credit metrics quite manageable by cutting capex and by deleveraging.
. Since 2010, the aggregate Gross Debt/EBITDA ratio for Russian corporates (excl. the banking sector) increased from 1.5x to 2.8x, driven by capex funding. The recent crisis caused the ratio to increase to 2.8x because of lower EBITDA in 1H20, but the metric seems to be improving.
Russian Corporate Eurobond universe Russian Corporate Eurobond universe aggregated Gross Debt / EBITDA (excl. leverage vs credit spreads financials) 3 800
2.5 600
2
bps , , 400
1.5 OAS
1
200 Now Gorss Gorss debt / EBITDA 0.5 0 0 1 1.5 2 2.5 3 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 Gross Debt / EBITDA
Investment Sources: Bloomberg, VTB Capital Investments research estimates 36 Outlook GEM EUROBONDS: EXPECTED RETURNS
. Towards YE 2020, the GEM debt market mainly restored it’s position in terms of yields following the sell-off in March. However, there is still room for maneuvers in the GEM universe in order to deal with credit spreads.
. In 2021, our base case scenario implies single-digit total returns (3.4-4.9%) for GEM Eurobonds (BofA Indexes), taking into account probable US Treasury yield growth (10-year benchmark up to 1.25%).
. For comparison, Russian Eurobonds’ expected total returns (0.7-2.7%) are less generous than what GEM Eurobonds can provide.
Current GEM Sovereign Eurobonds YTM Fair Value GEM Eurobonds Bear Base Bull Value decomposition, BofAML Index 5.0% Govt OAS Spreads, bps 4.6% 3.9% 4.1% GEM Sovereign (I1GV Index) 312 400 260 230 4.0% 4.0% GEM Corporate (EM3R Index) 356 530 330 310
Weighted Average Duration, years 3.0% 2.3% GEM Sovereign (I1GV Index) 8.0 8.0 8.0 8.0 3.1% 4.0% 2.6% GEM Corporate (EM3R Index) 4.5 4.5 4.5 4.5 2.0% Target Yield-to-Maturity, % 10-year US Treasury Bonds 0.9% 0.5% 1.3% 1.7% 1.0% GEM Sovereign (I1GV Index) 3.9% 4.6% 4.0% 4.1% 0.25% 0.25% 0.25% 0.25% GEM Corporate (EM3R Index) 4.4% 5.7% 4.2% 4.3% 0.0% Current Bear Base Bull Expected Total Return USD terms, % per annum -1.0% GEM Sovereign (I1GV Index) -0.5% 3.4% 2.5% OAS Spread, % GEM Corporate (EM3R Index) -0.3% 4.9% 4.5% UST Slope 1Y-10Y, adjusted % Scenario probability, % 30% 50% 20% UST Slope 1Y-FOMC Rate % FOMC policy rate % GEM Sovereign Eurobond YTM (I1GV Index), Fair value % * Slope adjusted to reference Sovereign Bond index
Investment Sources: BofAML, VTB Capital Investments research estimates 37 Outlook GEM EUROBONDS: YIELDS AND SPREADS
. After the shock in 1Q20, GEM Eurobonds showed gradual recovery to pre-COVID levels during 2Q-4Q20. Moreover, global banks accommodative policy allowed some IG-countries to get their historic lows in terms of yields. . Eurobonds of Russia and Indonesia are among the more stable bonds in GEM IG-universe, while benchmarks of Turkey and South Africa returned to pre-crisis level despite rating downgrades to B+/BB-. Mexico and Brazil Eurobonds lagged slightly, which deserves investment attention in 2021, as the pandemic slows down and vaccination expands. . During 2020, corporate Z-spreads are also stabilizing, though the process is not uniform by countries. Corporate Z- spreads have not reached their previous low levels. We prefer mid-term corporate Eurobonds as more reasonable option in the face of probable benchmark yields increase. . Although credit risks remain high, we have more certainty now with vaccines & quarantines. It provides opportunities for investment ideas in GEM Eurobonds universe by countries (like Asia, LATAM) and sectors, not only resilient to pandemic (food, packaging, telecoms&IT, etc), but also industries affected by coronavirus crisis (oil&gas, aviation, retail, etc).
10-year Sovereign GEM Eurobonds GEM Corporate Eurobonds Z-spreads, and UST-10 (Yields), % bps 10 1300 China Indonesia 9 1200 Mexico Russia 8 1100 Turkey S.Africa 7 1000 Brazil 6 900 5 800 4 700 3 600 2 500 1 400 300 0
200 Jul-20
Jul-19 100
Apr-19 Oct-19 Apr-20 Oct-20
Jan-19 Jun-19 Jan-20 Jun-20
Feb-19 Mar-19 Feb-20 Mar-20
Dec-18 Aug-19 Sep-19 Nov-19 Dec-19 Aug-20 Sep-20 Nov-20 Dec-20
May-19 May-20
UST (AAA) Russia (BBB-) Brazil (BB-)
Jul-18 Jul-19 Jul-20
Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jun-18 Jan-19 Jan-20 Jun-20 Jun-19
Mar-19 Feb-20 Mar-20 Feb-19
Aug-18 Sep-18 Nov-18 Dec-18 Aug-19 Sep-19 Nov-19 Dec-19 Aug-20 Sep-20 Dec-20 Nov-20 May-20 Turkey (B+) Mexico (BBB) Indonesia (ВВB) May-19 S.Africa (BB-) Investment Sources: Bloomberg, JP Morgan, VTB Capital Investments research estimates 38 Outlook GEM IG BONDS LOOK MORE ATTRACTIVE THAN US BONDS
. Low-risk IG and High-Yield hard currency bonds restored their positions during 2Q-3Q20 after the massive sell-off in March. IG bonds are quoted even below the pre sell-off levels in terms of Yields.
. The Fed’s unprecedented creation of a backstop for US corporate bonds led to a substantial lowering of IG and HY bonds yields from their March highs. In Mar 2020, the Fed announced a USD 750 bn corporate bond-buying program.
. GEM IG Eurobond segment spreads (GEM vs US) returned to the 2018-19 average of ca. 25-26 bps (Barclays Indexes), while GEM HY Eurobond segment is still above 2018-19 average spreads.
. We prefer IG GEM Eurobonds with BBB/BBB- credit ratings, but the yield premium became less attractive due to risk-on sentiment in 4Q20. We see more value in selective purchases of GEM HY bonds BB-rated, if the issuers have a solid liquidity position, adequate debt burden, and strong shareholder support enough to resist pandemic shock.
US and EM Investment Grade Bonds in US and EM High Yield Bonds in USD USD (Barclays Indexes) (Barclays Indexes) 100 5.0 900 16 15 90 4.5 800 14 80 4.0 13 700 12 70 3.5 600 11 10 60 3.0 500 9 50 2.5 8 400 7 40 2.0 6 300 5 30 1.5 200 4 20 1.0 3 100 2 10 0.5 1
0 0.0 0 0
Jul-18 Jul-19 Jul-20
Jul-18 Jul-19 Jul-20
Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jun-18 Jan-19 Jun-19 Jan-20 Jun-20
Apr-18 Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jun-18 Jan-19 Jun-19 Jan-20 Jun-20
Mar-19 Mar-20
Feb-19 Feb-20
Dec-18 Nov-19 Dec-19 Nov-20 Dec-20 Nov-18
Sep-18 Sep-19 Aug-20 Sep-20 Aug-18 Aug-19
Feb-19 Feb-20 Mar-20 Mar-19
Nov-18 Dec-18 Dec-19 Nov-20 Dec-20 Nov-19
Sep-18 Aug-19 Sep-19 Sep-20 Aug-18 Aug-20
May-18 May-20 May-19
May-18 May-19 May-20
Yield Spreads EM IG Bond vs US IG Bond, bps EM HY Bonds YTM vs US HY Bonds YTW spread, bps EM IG Bond YTM (Barclays Index), % (right axis) US HY Bond YTM (Barclays Index), % (right axis) US IG Bond YTM (Barclays Index), % (right axis) EM HY Bond YTM (Barclays Index), % (right axis)
Investment Sources: Bloomberg, JP Morgan, VTB Capital Investments research estimates 39 Outlook GLOBAL EQUITIES
Investment 40 Outlook SECTORAL VIEWS
Sectoral preferences: . We favor sectors damaged by the pandemics as we expect relatively successful vaccination in leading economies . We are cautious on COVID-benefiting sectors, but do not expect significant underperformance vs broad market
Contribution to S&P 500: P/E multiple Sector Our view Market cap '20 EPS '20 Est '20 Est '21 Expect post-COVID discretionary spending Consumer Discretionary 11% 7% 42.2 28.9 Positive recovery Vaccination should lift mobility and oil Energy 2% -1% -136.0 36.4 Positive demand leading to oil deficit Prefer cheap Pharma and selective in Health Care 14% 21% 17.9 16.1 Positive Biotech and Medtech Expect soft commodities to outperform Materials 3% 3% 26.9 20.9 Neutral market as global economy recovers Telecom companies benefited from stay-at- Communication Services 11% 12% 25.6 21.8 Neutral home, but it's fully priced in Staples look relatively overvalued benefiting Consumer Staples 7% 8% 22.0 20.6 Neutral form the pandemics Cheap multiples are balanced with higher Financials 10% 16% 17.7 14.6 Neutral regulation risks Cautious on sector but favor airlines and Industrials 9% 5% 40.8 23.8 Neutral global industrials Prefer undervalued sub-sectors with post- Information Technology 27% 24% 28.6 25.4 Neutral COVID growth Negative on the lack of growth and assumed Real Estate 3% 1% 48.5 47.4 Negative rising rates in subsequent years We don't expect price accretion in pure Utilities 3% 4% 18.5 17.5 Negative defensive sectors Index 100% 100% 26.2 21.5
Investment Source: CBR, VTB Capital Investments research 41 Outlook MATERIALS (ENERGY, MINING, SOFT COMMODITIES)
Oil and soft commodities to outperform mined commodities as global economy recovers
VIEW Sectoral prices . Between March and September 2020, we preferred mined 140 commodities including iron ore on the view that China 120 would show strong growth: China is the key consumer of these commodities. We also heavily favored gold. 100 80 . In our 2 October quarterly strategy note, we lifted our 2021 Brent forecast to USD 50/bbl from USD 45/bbl and moved 60 our commodity preference to oil and soft commodities 40 including corn and wheat on the view that vaccines would 20 successfully be developed and this would support mobility and oil demand, generating a meaningful oil market deficit. . We reiterate that view: oil is favored over mined commodities and gold in 2021. Oil stocks offer strong S&P 500 (rebased) Oil & Gas Materials value. We also like select agricultural related stocks. Quality mining stocks are safe to own but with more limited upside. RDSA LN ADM US STOCKS TO BUY Sector Oil & Gas Food Products . Royal Dutch Shell (RDSA US) we shift our preferred global oil name to RDSA from Total to gain more exposure to oil Market cap, USD bn 144 28 price upside. We expect strong upside to 2021 consensus estimates on oil and cost cutting. Return YTD -34% 12% Est Dividend Yield 6.8% 2.9% . ADM (ADM US) we look favorably on the US domestic food EV / EBITDA '21 5.6 10.1 consumption market and prefer exposure to ADM given strong market position and stable distribution lines. Ag Net Debt/EBITDA 1.8x 2.3x services profit may improve on stronger US exports. % of analysts with BUY Crushing business may still grow in 4Q20 as soybean meal 63% 77% keeps pace with soybean prices. ratings
Investment Sources: Bloomberg, VTB Capital Investments research estimates 42 Outlook HEALTHCARE
Major Pharma looks attractive on solid fundamentals and unjustified valuation discount vs market VIEW Sectoral prices . We assume that Biden’s presidency will have a strong focus on COVID-19 containment. It will lead to higher testing rates and extensive vaccine roll-out which is already priced in. 140
. In general, Healthcare sector did not benefit from the 120 pandemic as many companies faced deferred demand and delays with clinical trials. 100 . Healthcare sector is undervalued vs the broad market, and we expect it to outperform S&P 500 due to strong EPS 80 growth, reduced political risks and abundance of under- appreciated value stocks. Within healthcare, we prefer major Pharma and remain selective in MedTech and Biotech segments. S&P 500 (rebased) Pharmaceuticals STOCKS TO BUY Biotechnology HC Equipment & Supplies
. Boston Scientific (BSX US) remains our top pick across BSX US VRTX US NVS US MedTech space given its fundamental growth, undemanding Health Care valuation and a stable diversified sales structure. We expect Sector Biotech Pharma that pent-up demand through 2021 is not fully accounted in Equipment consensus estimates and expect that BSX will close the valuation gap vs MedTech peers. Market cap, USD bn 49 60 225 Return YTD -25% 5% 0% . Vertex Pharmaceuticals (VRTX US) provides the best risk / Est Dividend Yield 0.0% 0.0% 3.7% reward ratio in the Biotech segment. We model growth in cystic fibrosis franchise sales from USD 4 bn in 2019 to USD EV / EBITDA '21 16.8 13.2 14.0 9 bn by 2025 and expect successful AADT trials in 1H21. Net Debt/EBITDA 2.2x N/M 1.5x
. Novartis (NVS US) is one of the most under-appreciated % of analysts with 89% 82% 100% European companies with a strong portfolio and high BUY ratings dividends. Investment Sources: Bloomberg, VTB Capital Investments research estimates 43 Outlook IT AND TELECOMS
We prefer fairly-priced sectors with a clear post-COVID growth prospects
VIEW Sectoral prices . We expect that the stay-at-home attitude will remain in 1H21 200 and will further benefit IT companies, but that expectation is 180 already reflected in stock prices. 160 . Lower yields across the market, limited inflation, and 140 proactive monetary policy usually favor assets with long-term 120 growth potential. We assume 2021 environment will still be 100 supportive for high-growth IT companies but don’t expect price appreciation given current multiples. 80 . For 2021F we stick with fairly priced sectors that have clear post-COVID growth prospects such as video games developers, video content distributors and cyclical S&P 500 (rebased) Information Technology semiconductors. Communication Services STOCKS TO BUY CMCSA US EA US LITE US . Comcast (CMCSA US) will benefit from the ongoing shift IT towards broadband penetration and post-COVID Sector Media Entertainment normalization in TV advertising spending where CMCSA has Equipment a leading market share in TV and VOD content creation and Market cap, USD bn 235 38 7 distribution. Return YTD 17% 23% 14% . Electronic Arts (EA US) benefits from growing demand for Est Dividend Yield 1.9% 0.0% 0.0% online games. We expect that the stay-at-home attitude and EV / EBITDA '21 10.1 15.1 9.2 introduction of new-generation video gaming consoles will drive demand for video games in 2021. Net Debt/EBITDA 2.9x N/M N/M
% of analysts with 68% 63% 88% BUY ratings
Investment Sources: Bloomberg, VTB Capital Investments research estimates 44 Outlook CONSUMER SECTORS
Strong discretionary spending recovery as vaccines spread and lockdown measures are lifted VIEW Sectoral prices . We expect active rotation to consumer discretionary names to continue in 2021. Yet investors should be ready to face some 160 short-term setbacks, if pace of recovery slows down. 140 . We prefer European names over US, as we expect faster local consumer spending growth once travel bans are lifted. 120
. We shift towards high quality companies with moderate risk 100 profile, which showed resilience and quickly adapted to new norms. Our favorite industries are leisure focused hotel and 80 restaurant chains and apparel manufacturers. STOCKS TO BUY S&P 500 (rebased) Consumer Discretionary . Ralph Lauren (RL US) Despite promising signs of recovery and focus on operating efficiency (additional 20% EBITDA), Consumer Staples the stock currently trades at 6.7x next year EV/EBITDA, which is below its close peer group (8.4x) and its 2-year historic RL US DRI US WTB LN average (9.5x). Hotels & Hotels & . Darden Restaurants (DRI US) While strict lockdown Sector Fashion Restaurants Restaurants measures made many private restaurants go bankrupt, large chains remained resilient and ready to grow their market Market cap, USD bn 7 15 9 share. Menu simplification and rise in labor productivity will Return YTD -16% 4% -24% result in 100-150 bps margin growth, which suggests higher valuation once traffic fully recovers. Est Dividend Yield 2.3% 1.9% 0.0% EV / EBITDA '21 11.4 16.6 31.5 . Whitbread (WTB LN) Being the largest hotel operator in the UK and focusing predominantly on budget segment, the Net Debt/EBITDA 1.1x 3.8x 6.4x business is perfectly positioned for vaccination and tourist % of analysts with traffic rebound, while plans for expansion in Europe ensure 35% 61% 54% long-term growth. BUY ratings
Investment Sources: Bloomberg, VTB Capital Investments research estimates 45 Outlook INDUSTRIALS
COVID-19 suppressed the previous cycle. Whereas next cycle on track to be even more robust VIEW Sectoral prices . In 2020, COVID-19 became a black swan for the previous manufacturing cycle after two years of very slow decreasing 140 dynamics. Manufacturing capacities resurged after a few 120 months of absolute lows. During the last few months, all 100 major regions saw expectations of growth in manufacturing production. 80 60 . There is more room for upside in 2021 as the cycle goes up and the pandemic is curbed. We prefer the biggest 40 industrial conglomerates with strong fundamentals, robust 20 free cash flows and decent dividend yields. . We have a positive view on the Airlines subsector, which suffered due to pandemic, but now enjoys positive news flow regarding the vaccine. We also think that increased S&P 500 (rebased) Industrials Airlines (Subsector) mobility will also support taxi rides.
STOCKS TO BUY LUV US CAT US LYFT US . Caterpillar (CAT US) is one of the major global industrial companies who has low leverage, generates FCF yield of Sector Airlines Machinery Road & Rail 4.5-5.4% and provides 2.4-2.6% dividend yield in 2021-22. . Southwest Airlines (LUV US) will benefit from vaccine Market cap, USD bn 28 97 15 rollout and air traffic recovery. LUV is the safest airline with Return YTD -12% 25% 8% negative net debt and the highest exposure to domestic Est Dividend Yield 0.8% 2.4% 0.0% flights. EV / EBITDA '21 18.3 12.8 N/M . Lyft (LYFT US) benefits from lifting mobility restrictions Net Debt/EBITDA N/M 0.3x N/M should lead to higher revenue. We also expect more States to not allow the hiring of taxi drivers as full employees, % of analysts with 74% 48% 65% which should remove the danger of higher costs for BUY ratings ridesharing players. Investment Sources: Bloomberg, VTB Capital Investments research estimates 46 Outlook RUSSIAN EQUITIES
Investment 47 Outlook TIME TO EXPLOIT EQUITY CARRY
. Payout ratios have been revised upwards gradually for several years running. The aggregate dividend payout ratio for the RTS may break through 50% based on FY 2020 results as some names have both the capacity and willingness to cushion shareholder distributions after the difficult year. We see 55-65% as a long-term payout target as SOEs move to 50% and private names pay generally above 50%.
. Leverage is low. Market-aggregate Total Debt/EBITDA ratio is ca. 3x, and Net Debt/EBITDA is ca. 2.5x.
. ~4.4% yield on through year dividends is still more than many other markets could pay on peak earnings. 7,5% yield to kick in as soon as EPS recovers.
Dividend Yields exceed LT Sovereign RTS Index EPS, DPS and Dividend Yield by year Bond Yield by ~ 400bps 350 9% 12% 324 297 8% 300 10% 257 7% 250 240 8% 220 219 6% 192 200 , % 5% 6% 161 158 161
Yield 150 132 132 4% 106 4% 96 100109 3% 100 88 69 61 60 2% 2% 55 46 50 32 39 41 36 1% 0% 0 0% 2015 2016 2017 2018 2019 2020 10 11 12 13 14 15 16 17 18 19 20E 21E 22E
MSCI Russia Next 12m Dividend Yield Russia'30 YTM EPS DPS DY, % (rhs, based on current RTS Index value)
Investment Sources: Bloomberg, VTB Capital Investments research estimates 48 Outlook DECLINING COST OF CAPITAL COMMANDS HIGHER VALUATIONS
. Cost of debt has declined massively. Companies now pay almost half of the amount in interest they used to pay 5 years ago to borrow the same amount of money. Theory says that dividends/buybacks should continue to increase even if it leads to some higher leverage to maximize shareholder value.
. Declining cost of capital commands higher valuations. The impact of a 1 pp decrease in ERP on P/E becomes more acute with lower interest rates. The odds are high that we may have to say “farewell” to single-digit valuations for Russian equities in a low-rate environment.
Cost of debt for Russian corporate Relationship between P/E multiple and ERP as per DDM borrowers in RUB and USD has more than model halved since 2015 18 20 16 Cost of Debt = 4% ; g = 4%
Cost of Debt = 6% ; g = 4% 15 14 Cost of Debt = 8% ; g = 4% 12
10 P/E Multiple 10
8 5 6
0 4 Corporate Corporate Bond Index YTM, % 4% 5% 6% 7% 8% 9% 10% 11% 12% 15 16 17 18 19 20 Equity Risk Premium, % RUB USD
Investment Sources: Bloomberg, VTB Capital Investments research estimates 49 Outlook RUSSIA’S DIVIDEND YIELD IS SUSTAINABLE OVER THE LONG-TERM
. Low leverage: after peaking in 2013, the aggregated Debt/EBITDA ratio for RTS Index constituents was on the downturn.
. A lot of room to gear-up. Public companies could pay in aggregate terms ca. 70% of 2020 EPS which would bring aggregate Debt/EBITDA ratio slightly above ~3x.
Russia's corporate leverage is lowest in EM space EM dividend yields vs payout ratios 6% China 18,7 Turkey 9,1 Chile 7,5 5% Russia
Brazil 7,3 , % , S. Africa 6,1 4% Malaysia 5,6 Philippines 5,5 Egypt Malaysia Columbia Thailand 5,3 3% Turkey Taiwan S. Africa Chile S. Korea 5,1 Mexico Poland Indonesia Columbia 4,4 2% China Thailand India 4,3 S. Korea Philippines
Taiwan 3,9 2020 E Dividend Yield 1% India Poland 3,8 Mexico 3,7 Russia 3,4 0% 20% 40% 60% 80% 0,0 5,0 10,0 15,0 20,0 2020E Dividend Payout Ratio, % Debt / EBITDA
Investment Sources: Bloomberg, VTB Capital Investments research estimates 50 Outlook RUSSIAN EQUITIES: A TOP-DOWN VIEW FOR NEXT 12M
. We forecast ca. 26% return in base scenario (on 1-stage DDM).
. We see 69% YoY growth for 2021 EPS in Base case, assuming year-average Brent oil price of USD 50/bbl for 2021.
RTS Index top-down scenarios (next 12 months) Bear Base Bull EPS 2020, $ 99,6 99,6 99,6 % change 50,6% 69% 95% EPS 2021, $ 149,9 168,1 194,0 Dividend payout ratio, % 50% 55% 60% DPS 2021, $ 75,0 92,5 116,4 Russian sovereign risk, % 2,5% 2,7% 2,9% Russian ERP, % 6,0% 4,5% 4,0% Terminal earnings growth, % 1,5% 1,5% 1,5% RTS Index fair value (DDM) 1 065 1 624 2 164 Target dividend yield, % 7,0% 5,7% 5,4% Target P/E multiple 7,1 9,7 11,2 Current RTS Index value 1 365 1 365 1 365 Upside/Downside, % -21,9% 19,0% 58,6% Dividend yield, % 5,5% 6,8% 8,5% Total return, % -16,4% 25,8% 67,1% Probability-weighted return, % 21,4% Estimated probability, % 30% 50% 20% Memo item: year-average Brent price, $ 40 50 60
RTS Index EPS RTS Index target P/E scenarios
290 12
230 9
170 6
Index Index EPS (USD) 110 3
50 0 2014 2015 2016 2017 2018 2019 2020 2021 2014 2015 2016 2017 2018 2019 2020 2021
Forward 12 months P/E Base Case Bull Case Bear Case Forward 12 months P/E Base Case Bull Case Bear Case
Investment Sources: Bloomberg, VTB Capital Investments research estimates 51 Outlook 2021 EPS – ROAD TO GROWTH
RTS index EPS by sector (2021)
Consumer Other . Most of the contribution to the growth in RTS Index aggregate Electric staples 1% EPS for 2021 compared to 2020 comes from Gas (+23.7 pp), Oil utilities 3% (+21.7 pp), Financials (+9.8 pp), and Materials (+6.5 pp). Telecoms 5% 3% Oil 23%
. Consumer staples and telecoms have shown stable or even Domestics better profitability amid the COVID-19 pandemic. Financials 38% 27% Exporters 62%
Gas . Index aggregate ROE (~11% base case for 2021) would still not 18% be far from cyclical lows. Metals & Mining 20%
Sector contribution to RTS Index EPS change RTS Index ROE in 2021 vs. 2020 (base-case) pp
RTS Index total 68.9 22%
Oil 21.7 19% 17% Gas 24.0 16% 16% 15% 14% 14% Financials 9.8 13% 13% 13% 12% 13%12% 12% 11% 11% 11% Materials 6.5 10% 10%
Consumer/Retail 0.6 6%
Telecom 0.6
Utilities 1.5
Transport 3.3
Tech 0.8
Reported 2003-2019 Base Case Bear Case Bull Case
Investment Sources: Bloomberg, VTB Capital Investments research estimates 52 Outlook OUR VIEWS AND MARKET CONSENSUS
. We are slightly more upbeat on 2021 market aggregate EPS compared to consensus. We are more positive on the domestic sector.
. We are almost in line with consensus EPS of gas and materials sector, but slightly below on tech sector.
VTBC Investments 2021 EPS estimates vs consensus on Key contributiors to VTBC Investments view on RTS sector level (index-weighted) Index EPS for 2021 vs Consensus
POLY -0.5% Utilities 10.7% GAZP -0.4% Consumer/Retail 5.8% PLZL -0.3% 3.6% Telecom TATN -0.2% 2.9% Oil ALRS -0.2% 2.8% Financials FIVE 0.4% 2.2% RTS Index NVTK 0.9% 1.4% Gas SBER 0.9% 1.3% Materials LKOH 1.2% -0.4% GMKN 1.2% Tech -5% 0% 5% 10% 15% -1% -1% 0% 1% 1% 2%
Investment Sources: Bloomberg, VTB Capital Investments research estimates 53 Outlook EXPECTED RETURNS OVER THE NEXT THREE YEARS
Return component Top-down estimate
Dividend yield 7% p. a.
EPS growth (base: EPS’20=100) 30% p.a. (EPS’23=220)
Total 37% p.a. (+157% over 3 years)
Equity portfolio return factors Market themes/drivers
Modestly rising dividend payouts Dividend yield
Profitability recovery from cyclical lows EPS growth
Geopolitical discount reduction, buybacks
Multiple expansion VTB Capital IM alpha generation track record for sector allocation and stock selection
Active alpha Market dislocations resulting from low demand for Russia’s risk
Investment Sources: Bloomberg, VTB Capital Investments research estimates 54 Outlook SECTOR THEMES
Investment 55 Outlook OUR TOP PICKS IN RUSSIAN EQUITY
OIL & GAS: We are positive on the sector amid expectations of mobility recovery due to effective vaccination. . Gazprom: gas market recovery may lead to 8.0% DY amid transfer to 50% DPR. Adoption of an option program for management and commitment to new dividend policy aligns interest of shareholders and management. . Rosneft: completion of Vostok Oil project; commitment to dividend policy and USD 2 bn buyback in 2021. . Lukoil: 100% FCF distribution via dividends; limited investment opportunities and unlevered balance sheet may lead to review of buyback option. . Surgutneftegas pref: 18.7% 2020 DY amid a weak RUB (base case scenario USDRUB 74 eop).
METALS & MINING: We reiterate our positive stance towards steel producers, which should continue to benefit from healthy pricing and consumption environment. . NLMK: exposure to strong export market and generous dividend policy (100% of FCF) 12.7% 2021 DY, 13.1% 2022E DY. . Severstal: benefit from higher prices of iron ore, 100% FCF dividend payout 10.5% 2021 DY, 10.7% 2022E DY. . MMK: to catch up following pressure on the back of MSCI index exclusion, 100% FCF 12% 2021 DY, 12.7% 2022E DY.
FINANCIALS: We expect to see moderate provisioning and improved cost of risk in 2021E, which should enable stable dividend payments. . Sberbank: our preferred exposure thanks to underlying fundamentals, adherence to dividend policy (50% payout ratio), updated ROE target above 17% and upcoming potential from further ecosystem integration and AI implementation.
AIRLINES: We believe that high quality airline companies (high level of internal market, manageable leverage) may outperform the market long-term. . Aeroflot: Russia’s national carrier (41.3% share), may be the key beneficiary of the trend.
Investment Sources: Company data, VTB Capital Investment Management research estimates 56 Outlook OIL: BACK TO NORMAL
As oil market rebalance amid stabilization of oil inventories, we see more upside in oil names . 2021 Oil price putlook: - USD 50/bbl in 2021 amid the OPEC+ deal and vaccine effectiveness. Restoration of additional volumes from Libya and Iran, as well as demand destruction amid 2-3rd Covid waves may put additional pressure on the market. . In brief: Russian vertically integrated oil companies, VIOCs, are low- cost producers, that have strong balance sheets and attractive dividend policies (50% DPR of Net Income or 100% FCF). . In 2021 we expect amendments of VIOC’s strategies amid OPEC+ deal and growth of ecological initiatives. We assume to see more cost optimization, divestments of non-core assets and revisions of buyback programs. 10.8 . We forecast 123% EPS growth in 2021, however EPS will be 70% of pre-Covid EPS level. Ceiling on oil production amid OPEC+ deal and tax changes will put pressure on the dividend yield of the oil sector, which trades at par of market dividend yield (6.7% @ USD 50/bbl). 2021 Dividend . 2020 Tax amendments touch only part of tax breaks, therefore there is Company Net Debt/ Dividend payout, Buyback EBITDA a long-term risk that there may be new changes going forward. yield, % % Company Overview: 50% of Rosneft 2.7 5.7% USD 2 bn . Rosneft (ROSN)– realization of Vostok Oil project; commitment to IFRS dividend policy and USD 2 bn buyback in 2021; . Lukoil(LKOH) – 100% FCF distribution via dividends; limited 100% - (approved Lukoil 0.2 7.5% investment opportunities and unlevered balance sheets may lead to adj. FCF USD 3 bn) revision of buyback program. . Surgutneftegas pref (SNGSP) trades with a double-digit dividend yield for 2020 (18.7% amid USDRUB eop of 74). Risks: . Possible changes of taxation . Oil price volatility . Increasing ESG trends and transition to low carbon economies Investment Sources: VTB Capital Investments research estimates, Bloomberg 57 O utlook GAS: IN PROCESS OF REBALANCING
Gas markets are in process of rebalancing amid seasonal growth of demand and lower US LNG supplies. We favor Gazprom due to positive outlook in 2021 and commitment to dividend policy
European spot gas price dynamics, USD/mcm . Gas markets started rebalancing amid seasonal growth of demand and lower 5Y high/low 5Y average 2020 supply, including lower US LNG supplies. However gas inventories in the US 500 and Europe (ca. 92% ) remain above five-year average levels (85.6% in Europe). 400 . Long-term view: China’s environmental policy should drive demand for gas in the long term. Gas consumption in China is projected to increase by 4% YoY in 2020 vs ca. 10% p.a growth over the last 5 years. 300 LNG outlook: . No new significant FIDs of new LNG projects have been announced so far in 2020 –for the first time in a decade. The halt of new LNG projects may tighten 200 the global gas market by 2024. . New LNG marketing paradigm creates risks for LNG projects. Share of LNG spot volumes has increased to 30%. Average oil indexation in new contracts 100 has been down from 14.4% to 11.7%, oil peg will be eliminated long-term.
Company Overview: 0 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec . We remain positive on Gazprom (GAZP) amid gas market recovery. Adoption of a motivation program for management and commitment to new dividend Gazprom dividend yield,% in 2019-2021 years policy aligns interest of shareholders and management. Recovery of volumes and prices in Europe (180 bcm (+4.2% YoY) at price of USD 162/mcm (+22% DPS, RUB/share Dividend yield, % YoY)) as well as China ramp up should support financials in 2021. 18,0 8,7% 10,0% 8,0% 16,0 8,0% 9,0% . Novatek (NVTK) – good quality growth story with high price tag (13x 2021 PE). 14,0 8,0% Amendment of dividend policy should be positively perceived by the market, but 7,0% 12,0 will translate in a below market dividend yield (3.9% DY assuming DPR of 50% 6,0% 10,0 4,2% vs 6.5% for RTS Index). The key catalyst - launch of Artic LNG-2, shows good 5,0% 8,0 progress (29%), but will be launched only in 2023. 4,0% 6,0 3,0% Risks: 4,0 2,0% . Virus spread and unsuccessful vaccination 2,0 1,0% . European gas market dynamics (weather during winter season, the potential 0,0 0,0% resumption of US LNG exports to Europe). 2018 2019 2020 2021
Investment Sources: VTB Capital Investments research estimates, Bloomberg 58 Outlook BANKING SECTOR: SHOULD BENEFIT FROM ECONOMIC RECOVERY IN 2021
We expect to see moderate provisioning and improved CoR in 2021E, which should enable stable dividends. The scope of problem loans in the sector may become more visible, while still should be stretched over time due to restructuring . Lending to remain supported by mortgages. Mortgage lending is likely to remain the key driver in 2021 despite growth rate deceleration thanks to the prolongation of the subsidy program until July 2021: 15% YoY in 2021E vs 20% in 2020E. . Outlook. We expect lower provisioning in 2021 given economic recovery and potential macro add-on release, which should support EPS growth and enable stable dividend payments. The quality of restructured loans remains the key concern for the sector, which is likely to crystallize only in 2021, while due to restructuring may still be uncertain for a prolonged period. . Top pick. We continue to prefer Sberbank thanks to underlying fundamentals, adherence to dividend policy (50% payout ratio) and updated ROE target above 17%. We believe that the targeted integration of ecosystem’s non-financial assets should support bank’s positions in financial services.
Russian banking sector: NPL dynamics Sberbank’s guidance: CoR set to normalize 9% bp 300
8% 250 230-250
7% 200
6% 140-160 150
5% ~100 100 74 4%
50
Apr-18 Apr-16 Oct-16 Apr-17 Oct-17 Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jun-16 Jun-17 Jun-18 Jun-19 Jun-20
Feb-16 Feb-17 Feb-18 Feb-19 Feb-20
Aug-19 Aug-16 Dec-16 Aug-17 Dec-17 Aug-18 Dec-18 Dec-19 Aug-20 0 Retail NPL Corporate NPL 2019 2020E 2021E 2022E 2023E
Investment Sources: VTB Capital Investment Management research estimates, CBR, company data 59 Outlook STEEL – REITERATE POSITIVE OUTLOOK
. Steel to continue to offer strong cash return to shareholders due to generous Dividend yield is among highest dividend policy, healthy FCF, and strong balance sheets. across sectors
. Robust demand and growing optimism support steel prices worldwide; 12.7%13.1% 12.7% 12.0% o China remains a locomotive (2021 GDP is expected +8%, while 14th 5-year plan 10.5%10.7% implies 4-5% p.a until 2035) given ongoing stimulus investments into infrastructure and property; pent-up demand and re-opening of economies in 6.25% RoWshouldprove an additional impulse. o Domestically, construction is backed by high demand for mass-housing due to low interest rates. . High ESG (and sustainability standards) profile and focus on development towards zero carbon production to be rewarded by investors. Severstal NLMK MMK 2021E 2022E Market average . Limited risk and low sensitivity to potential change in MET regime.
% Global Steel demand is expected to grow in 2021 (ex-China) 14.7 15 11 11.9 9.3 10 8.2 8 5.9 5.5 6.7 6.2 4 5.3 5.1 4 4.1 5 0.4 0 1.3 0 -5 -2.4 -2.4 -4 -3 -3.5 -10 -5.5 -10 -9 -10.1 -15 -12.4 -15.2 -15.3 -14.1 -20 -16 -19.5 -25 EU (28) Other Europe CIS USMCA Central & Africa Middle East Developed Develping China World South Asia Asia ex. America China 2019 2020E 2021E
Investment Outlook Sources: VTB Capital Investments research estimates, Bloomberg 60 CONSUMER SECTOR: DIVIDEND POTENTIAL UNLOCKED
Following an exceptional year for food Retail sector: high dividend yields look sustainable retail, Russian retailers turn into attractive 12% dividend stories and this looks sustainable 10.5% 10.7% 9.7% 10% to us 8.5% 7.5% 8% 6.8% 6.9% . Dividends. Strong food retail trends this 6.1% 6% year enabled Magnit to increase its 9M20 4.1% dividend by 67% YoY, while X5 announced 4%
its first interim dividend ever. We expect a 2% total FY20 dividend to reach record levels (up to RUB 50 bn for each retailer) and see 0% X5 Retail Group Magnit Detsky Mir scope for these levels to be maintained. 2019 2020E 2021E
. Trends. Internal consumption spike . X5 Retail Group’s new strategy implies an increase in business observed during this year is likely to digitalization and further integration of its online delivery service. normalize into 2021, while 4Q20 results We expect structural increase in the EBITDA margin in the mid- should remain solid given the re-introduction term to 7.5-7.8% (from 7.0-7.3% in 2018-2019). of restrictions on the back of second wave. . Magnit has optimized CVP during 2020 and should be prepared for a more aggressive expansion in 2021, both organically and . Discounters. Both market leaders – Magnit through M&A. The retailer has started developing its own online and X5 – are piloting discounter formats, delivery and expanded its partnership programs to more cities. which should be in high demand given . Detsky Mir has a balanced strategy of online development pressure on incomes and the lack of large (targeting 45% share of revenues) and aggressive offline federal players in this segment. expansion (a store base increase of 2.4x until YE 2023) coupled with stable dividends. The retailer has 100% free float, while according to media, Altus Capital may acquire up to 29.9% at an offer price of RUB 160/share (+26% to pre-announcement price), becoming the largest shareholder. Investment Sources: Company data, VTB Capital Investment Management research estimates 61 Outlook UTILITIES – WATCH AFTER KEY DRIVERS
Inter RAO to benefit from the start of the realization UES Electricity demand of its new Strategy plans to reach FY 2025 EBITDA 6% of ca. RUB 210 bn (6.8% CAGR FY 2019-2025). 4% 2% Cash pile utilization through M&A activity (in 0% generating, supply, IT assets) or announcement of -2% -3.2% details of new projects (in Turbine localization, Vostok -4% Oil) at a proper IRR. -6%
Drivers -8% The launch of LTIP for management is expected over -10% the next few quarters. -12% -14% RusHydro – dividends for FY 2020 to be higher
than for FY 2019.
1-Jan-20
1-Mar-20
14-Jul-20 29-Jul-20
12-Oct-20 27-Oct-20
15-Apr-20 30-Apr-20
29-Jun-20 16-Jan-20 31-Jan-20 14-Jun-20
15-Feb-20 16-Mar-20 31-Mar-20
11-Nov-20 13-Aug-20 28-Aug-20 12-Sep-20 27-Sep-20 26-Nov-20
15-May-20 30-May-20 Healthy operating cash flow due to record electricity Daily consumption, YoY YTD consumption output on the back of higher water inflows, commissioning of new capacities, increase of electricity Electricity average prices at Day Ahead Market consumption in the Far East.
1600 Drivers Decrease of non-cash impairments in comparison with 1400 1 299 FY 2019 which used to affect net income (the base for 1 209 1200 dividends calculation). 1 035 1000 Unipro – depends on the re-launch of 755 800
Berezovskaya Unit 3. Rub Mwt / * h 600 Once Unit 3 is launched, financial results are expected 400
to show notable growth due to CSA payments.
Drivers
01.01.2020 01.03.2019 01.05.2019 01.07.2019 01.09.2019 01.11.2019 01.03.2020 01.05.2020 01.07.2020 01.09.2020 01.11.2020 Dividends might rise towards RUB 20 bn from 01.01.2019
RUB 14 bn in FY 2021. PZ 1 PZ 2 Investment Sources: VTB Capital Investments research estimates, Bloomberg 62 Outlook AIRLINES: WELCOME ABOARD
We believe that high quality airline companies (high level of internal market, manageable leverage) may outperform the market long-term. The key risk is unsuccessful vaccination Mid-term sector outlook: . In 2021-2022 airlines may have the highest potential growth amid Aeroflot Revenue Breakdown in 2019 vaccination and possible quicker recovery of population mobility. Russian domestic market has fully recovered to pre-COVID levels 3 6% Russia months after shut-down in 2Q20. 5% 5% Europe . The sector may return to positive FCF only in 2022. Investors may start rebalancing ahead of this event. 42% Asia . Aeroflot (AFLT RX) is Russia’s national carrier (41.3% share). We 16% CIS forecast Aeroflot PAX will be 50% - 84% of pre-Covid levels in 2020- 2021E. America . Leverage: Aeroflot’s leverage has increased up to USD 7.7 bn (10.2 Net Debt/2020E EBITDA from 3.2 Net Debt/EBITDA as of 31/12/2019). 26% Middle East and Africa Recovery of international flights in 2021-2022 will normalize this metric. Long-term triggers: Aeroflot share price dynamics vs. Indexes . New strategy targets 130 m PAX by 2028 (7.2% CAGR in 2019-2028) MSCI World Airlines MSCI European Airlines amid expansion of Pobeda. MSCI World Aeroflot RTS . High growth potential of Russian market due to low penetration and 120 territory size (1 PAX per Capita in Russia vs 1.9 PAX per Capita in 110 European Union). Valuation: 100 . Aeroflot trades at 5.4-3.9 2021-2022 EV/EBITDA. 90 . Historically Aeroflot traded at 4-5 EV/EBITDA with discount to 80 European peers, Ryanair и EasyJet, 6-8 EV/EBITDA. Growth of 70 Pobeda business in Company mix may lead to rerating long-term. 60
Risks: 50
. Virus spread and unsuccessful vaccination 40
. Macroeconomic risks. 30 21.12.2019 09.02.2020 30.03.2020 19.05.2020 08.07.2020 27.08.2020 16.10.2020 05.12.2020
Investment Sources: VTB Capital Investments research estimates, Bloomberg 63 Outlook RUB CORPORATE BONDS VS EUROBONDS
Тотаl Return performance: Eurobonds vs . Since 2002 Russian corporate Eurobonds (CEMBI RU Total RUB Bonds (in USD) Return Index) have delivered 9.0% compounded return 580 outperforming CBONDS Total Return Index by 3.4% p.a on 530 average with roughly the same volatility of ~14% p.a in USD. 480 . Tactically we are Neutral (=) on Russian debt as we have a 430 better outlook on RUB bonds vs Eurobonds. RUB bonds look 380 more attractive based on expected interest rates, credit spreads 330 and FX valuation. 280 Total Total return Index 230 . The Ruble looks undervalued relative to USD based on PPP and 180 based on regression with oil (see slide 23). 130 80 Total return relative performance: 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 Eurobonds vs RUB Bonds (in USD) RUB Bonds (CBONDS) Eurobonds (CEMBI RU) 250 Z-spreads: Eurobonds vs RUB Bonds 200 1 400
150 1 200
1 000 100
800
Spread,bps
Totlal Totlal return relative -
Z 600 50 400 0 200 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 18 19 20 0 Eurobonds/RUB Bonds LT Trend 10 11 12 13 14 15 16 17 18 19 20 +2 STDEV -2 STDEV RUB Bonds Eurobonds Investment Sources: Bloomberg, VTB Capital Investments research estimates 64 Outlook RUSSIAN EQUITIES VS BONDS Equity / Eurobond total Return versus EPS 180 300 . We expect EPS to trend up from a low base. 160 280 . We favor equities vs bonds long-term. EPS recovery 140 260 240 will be a sizable contributor to performance going 120 220 forward. 100 EPS 200 80 . Multiple re-rating due to declining cost of capital 180 remains a long-term option for Russian equities. 60 Relative Relative total return 160 40 . We forecast higher returns of Russian equities, but the 140 factor of higher volatility should be taken into account 20 120 – 47% for equities vs. 14% for bonds. 0 100 10 11 12 13 14 15 16 17 18 19 20 21
Equities TR / USD Bonds TR EPS (USD) Domestic demand equities DY vs OFZ YTM Exporter equities DY vs Eurobond YTM 18% 12,0% 16% 10,0% 14% 12% 8,0% 10% 6,0% 8% 6% 4,0% 4% 2,0% 2% 0% 0,0% 09 10 11 12 13 14 15 16 17 18 19 20 09 10 11 12 13 14 15 16 17 18 19 20
Domestic Div yield, % RGBI YTM, % Exporters Div Yield, % GDRU YTM, %
Investment Sources: Bloomberg, VTB Capital Investments research estimates 65 Outlook APPENDIX
Investment 66 Outlook DECLINING INTEREST RATES MOTIVATE THE RETAIL INVESTOR TO INVEST IN SECURITIES
. The share of security investments within the structure of the Russian population’s financial assets is the lowest among DMs and EMs. . Deposit rates have been declining over the last 12M. Higher dividend and corporate bond yields are making investing in securities more attractive relative to deposits. . Inflows to equities and bond mutual funds and retail brokerage accounts demonstrated very robust dynamics in 1H20 despite the coronavirus outbreak and market turmoil. We believe that declining deposit rates will force individuals to invest more in securities. . Local investors are value oriented and seeking high and sustainable dividend yields for their portfolio as an alternative Top 10 stocks in retail investors' portfolios, to deposits.Deposit rate and equity inflows from retail investors Nov 7.0 6.3% 5.4% 6.1 6.4% 6.0 24.3% 4.9 6.5% 5.0 5.0% 4.3 4.1 3.9 4.1 4.0 5.0% 6.6% 3.1 3.0 2.8 4.8% 7.5% 2.0 11.8% 4.5% 0.9 1.0 4.4%0.9 0.9 4.5% 0.5 0.4 0.5 4.4% 0.1 4.3% 8.7% - Apr 20 May 20 Jun 20 Jul 20 Aug 20 Sep 20 Oct 20 Nov 20 11.7% - 1.0 10.8% - 1.5 - 2.0 4.0% Gazprom Lukoil Nornickel Equity inflows from retail clients, USD bn Sberbank Sberbank pref Aeroflot Total equity inflows from retail clients over LTM*, USD bn VTB MTS Mail.ru Group Top-10 banks deposit rate, % (rhs) Surgutneftegaz pref
Investment Outlook Sources: Moscow Exchange statistics, CBR 67 NON-RESIDENT’S HOLDINGS IN THE OFZ MARKET
In October, demand from non-residents shows some recovery, foreign investors’ OFZ holdings increased by RUB 44 bn
. In October, non-residents’ market share decreased by 2.8 pp to 24.0% or RUB 3.07 tn (ca. USD 40.3 bn) (CBR data). Non-residents’ inflows to OFZs amounted up to RUB 44 bn vs outflows of RUB 48 bn in September. OFZ market volume increased by RUB 1.5 tn up to RUB 12.76 tn.
. In October non-residential inventors were gradually lowering their share in OFZ auctions to 4.1% which is 3.5 pp lower than in previous month (7.6%).
. Some moderate inflows might proceed in the next few months. According to the latest NSD data, net inflows since the beginningof November amounted to ca. RUB 90 bn
OFZ non-resident's holdings Nominal Volume of OFZs holdings 40% by non-residents 5 000 3 400 350 OFZ non-resident's holdings (left axis), bln RUR 3 200 300 4 500 35% 3 000 250 Non-resident's share in OFZ (right axis) 2 800 2 600 200 4 000 30% 2 400 150 2 200 100 3 500 2 000 50 25% 1 800 0 3 000 1 600 1 400 -50 2 500 20% 1 200 -100 1 000 -150 2 000 15% 800 -200 600 -250 1 500 400 10% 200 -300
1 000 0 -350
Jul-20
Jul-19
Jul-18
Jul-17
Oct-20
Apr-20
Oct-19
Apr-19
Oct-18
Apr-18
Oct-17
Apr-17
Jun-20
Jan-20
Jun-19
Jan-19
Jun-18
Jan-18
Jun-17
Mar-20
Feb-20
Mar-19
Feb-19
Mar-18
Feb-18 Mar-17
5% Feb-17
Sep-20
Aug-20
Dec-19
Nov-19
Sep-19
Aug-19
Dec-18
Nov-18
Sep-18
Aug-18
Dec-17
Nov-17
Sep-17
Aug-17
May-20
May-19 May-18 500 May-17 Change of nominal volume of OFZs hold by non-residents 0 0% (m/m), bn RUB (rigth axis) 2012 2013 2014 2015 2016 2017 2018 2019 2020 Nominal volume of OFZs holdings by non-residents, bn RUB (left axis)
Investment Outlook Sources: CBR, Bloomberg, VTB Capital Investment Management research estimates 68 RUSSIAN FIXED INCOME MARKET SNAPSHOT
. The size of the Russian fixed income market has exceeded Total amount outstanding of Russian Russian fixed income market breakdown USD 540 bn. fixed income market, USD bn. 600 . The Russian bond market has Eurobonds a large Ruble-denominated sovereign 500 Eurobonds Local non- non- 7% bond segment, which 139 sovereign sovereign accounts for almost 3/4 of all 144 40% 167 19% issues (in USD terms). 400 207 173 146 169 . The remaining ca. 1/4 of the 191 Amount 300 133 Russian bond market is 168 outstanding 131 denominated in hard currency. at 118 USD 540 bn. 200 402 125 374 126 336 . Corporate bonds make up 309 295 285 266 almost 2/3 of the overall 230 225 100 193 195 market, while sovereign and 160 112 120 sub-sovereign bonds make up Local the remaining 1/3. 0 sovereign 34%
Russian Eurobonds Russian RUB Bonds
Investment Outlook Sources: Cbonds, Moscow Exchange, VTB Capital, Bloomberg, VTB Capital Investments research estimates 69 RUBLE BOND MARKET SNAPSHOT
The Russian Ruble bond Ruble bond market breakdown The most liquid Ruble bond market: snapshot
. Ca. RUB 30.1tn of total Corporates 1st outstanding debt. tier Sovereign 5% Corporates 2nd 45% tier Sovereign 3% . Predominance of issues Total amount 86% with a credit rating of Corporate outstanding at Most liquid Corporates HY investment grade BBB-. 52% RUB 30 114 amount 2% bn outstanding at Sub-federal RUB 15 553 bn 4% . Represented mostly by utilities & transportation and banks & financials in Sub- the corporate segment. federal 3% . Liquid sovereign segment The most liquid Ruble corporate The most liquid Ruble bonds by credit (OFZ). bonds by sectors ratings
. Dominated by domestic Retail & consumer goods 4.0% Others 0.1% investors (banks, financial Real Estate 4.8% B 0.3% institutions and pension Metals & Mining 6.3% funds). BB- 0.4% Industrial 7.8% BB 0.6% Telecoms 11.9% BB+ 1.7% Oil & Gas 15.4% Unrated 7.2% Utilities & Transport 23.2% BBB- 89.7% Banks & Financials 26.6%
0% 10% 20% 30% 40% 0% 25% 50% 75% 100%
Investment Outlook Sources: Cbonds, Moscow Exchange, VTB Capital, Bloomberg, VTB Capital Investments research estimates 70 RUBLE BONDS PRIMARY ACTIVITY
. In November, OFZ auction volume amounted to RUB 815 bn, twice lower than in previous record month. 11M20 OFZ auctions totaled ca. RUB 5.16 tn (vs RUB 5.0-5.5 tn as adjusted plan for YE 2020).
. In 4Q20, the MinFin’s borrowing plan was set at RUB 2 tn. It was unsurprisingly exceeded in mid-November by 12%.
. In November 2020, RUB 142 bn of corporate bonds were placed (YTD RUB 1.55 tn (-10.5% YoY)). Bond supply was driven by Tier 2 and Tier 3 credit quality issuers.
. The corporate G-spread remained in the range of 125-130 bps that still adds some investment potential.
OFZ Auctions and Corporate Primary Corporate Bond YTM / G-sprd Index Placements, RUB bn 10.0 200
Total Amount (bn RUB): 9.0 180 OFZ – 1 957; Corp.bonds – 1 729 (11M2019) OFZ – 5 160; Corp.bonds – 1 548 (11M2020) 8.0 160
7.0 140 1 502 IFX-Cbonds G-Spread, bps (rigth axis) 6.0 Corporate Bond Index IFX-Cbonds YTM eff, % 120 CBR Key Rate, % 5.0 100
833 815 4.0 80
404 390 3.0 60
192 339 376 298 2.0 40 269 376 125 226 167 109 86 102 203 90 179 1.0 20 78 85 33 120 121 320 34 192 222 53 132 297 206 246 113 136 102 136 132 296 111 20 137 224 142
0.0 0
Jul-18 Jul-19 Jul-20
Apr-18 Oct-18 Apr-19 Oct-19 Apr-20 Oct-20
Jan-19 Jun-19 Jun-20 Jun-18 Jan-20
Mar-19 Feb-20 Mar-20 Mar-18 Feb-19
Jul-19 Jul-20
Aug-18 Sep-18 Aug-19 Sep-19 Nov-19 Dec-19 Sep-20 Nov-20 Dec-20 Nov-18 Dec-18 Aug-20
May-18 May-19 May-20
Apr-19 Oct-19 Apr-20 Oct-20
Jan-19 Jun-19 Jan-20 Jun-20
Feb-19 Mar-19 Feb-20 Mar-20
Nov-19 Dec-19 Nov-20
Sep-20 Aug-19 Sep-19 Aug-20
May-19 May-20
Corporate bonds OFZ
Investment Sources: MinFin of Russia, Bloomberg, Cbonds, VTBC, VTB Capital Investments research estimates 71 Outlook EUROBOND MARKET SNAPSHOT
The Russian Eurobond Breakdown of the Russian Russian Eurobond market breakdown by currencies market: Eurobond market
. Ca. USD 138.7 bn of Sovereign total outstanding debt. 28%
. The predominance of USD 85% issues with a credit Amount outstanding at rating of investment USD 138.7 bn RUB grade BBB-. 3%
. The corporate Corporate EUR segment is mostly 72% 12% represented by the oil & gas, financial and metals & mining sectors. The most liquid Eurobonds by sectors The most liquid Eurobonds by credit ratings . Significant Transport & Utilities 4.7% participation of non- Others 1.1% Telecoms resident investors. 6.8% BB- 1.2%
. Mostly USD issues. Other 7.5% BB 1.6% BB+ Metals & Mining 20.4% 3.7% BBB 5.8% Banks & Financials 26.0% Unrated 10.1% Oil & Gas 34.6% BBB- 76.8%
0% 20% 40% 0% 20% 40% 60% 80% Investment Sources: Cbonds, Moscow Exchange, VTB Capital, Bloomberg, VTB Capital Investments research estimates 72 Outlook RUSSIA & CIS EUROBONDS: PRIMARY MARKET
Favorable market environment supports a pipeline in November both in Russia and CIS . During 11M20, USD ca. 17.5 bn worth of Russian corporate Eurobonds were issued (+33.2% YoY). There was only one corporate deal in November with total issue size of USD 1.25 bn (+79.6% YoY), i.e new 7-year 3.375% Reg S / 144A Notes of VEON, one of the leading TMT across CIS, MENA and Asia region.
. In November, the Russian Federation, first time since early 2019, placed its new dual-tranche of Eurobonds: EUR 750 m 1.125% 2027 and EUR 1.25 bn 1.85% 2032.
. Uzbekistan returned to the market with new 10yr benchmark 3.70% USD 555 m and inaugural LCCY bond of UZS 2 tn (~USD 200 m) with coupon and principal linkage to USD. Since debuting in February 2019 with 5yr and 10yr benchmark sovereign USD Eurobonds, three State-owned banks followed, all their deals in similar format of Reg S only USD 300 m. There is a strong pipeline both among corporates and financials out of Uzbekistan, given the country’s economic reforms announced and outstanding privatization plan in 2020-2025.
Russian Corporate Eurobond Primary Order book structure of USD- Placements, USD-equivalent denominated primary placements of Russian Eurobonds, 2019-2020 Total Amount: USD 13.1 bn in January-November 2019 GTLK-27 14% 24% 34% 28% USD 17.5 bn in January-November 2020 Gazprom… 20% 16% 27% 33% 4% NorNickel-25 27% 5% 6% 14% 32% 16% 3 750 SIBUR-25 65% 35% Alrosa-27 25% 11% 28% 25% 11% 3 067 2 966 Gazprom-27 25% 5% 16% 13% 17% 24% 2 684 2 584 Lukoil-30 20% 20% 12% 20% 15% 13% 2 228 2 250 GTLK-27 32% 25% 38% 5% 1 938 Gazprom-30 20% 30% 11% 17% 22% 1 820 TMK-27 33% 21% 39% 7% 1 057 1 329 1250 SIBUR-24 41% 7% 11% 26% 15% 1 000 856 ChelPipe-24 28% 5% 30% 23% 14% 696 681 Severstal-24 30% 22% 16% 23% 9% 164 246 MMK-24 15% 31% 17% 14% 15% 8% 0 0 0 0 0 NLMK-26 15% 15% 40% 27% 3% GTLK-26 35% 20% 36% 9%
EuroChem-24 49% 33% 6% 11% 1%
Jul-19 Jul-20
Apr-19 Oct-19 Apr-20 Oct-20
Jan-19 Jun-19 Jan-20 Jun-20
Mar-19 Mar-20
Feb-19 Feb-20
Aug-19 Sep-19 Nov-19 Dec-19 Aug-20 Sep-20 Nov-20
May-19 May-20 Russia US UK Cont.Europe Switzerland Other
Investment Sources: Cbonds, Interfax, VTB Capital Investment Management research estimates 73 Outlook DISCLAIMER
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Investment 74 Outlook