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The Tie That Binds

While the macroeconomic hyperlinks between Russia and oil are well known, I believe that it is useful to overview how they work. As a result of Russia produces a lot oil and gasoline, it’s the oil price that determines export and government revenues. The ruble is used as a security valve to regulate the impression of those elements on the economy, and that, in turn, determines absolutely the degree of greenback GDP.

Russia produces just below 10 mln bpd of oil, as Ailing as 550 bln m3 of fuel (also round 10 mln boepd) and enormous quantities of different commodities, which in recent times have broadly followed oil prices up after which down. The proportion of Russian GDP made up of oil and gas is a moot point, as much of the hydrocarbon petroleum nightmare strain production is bought cheaply on the domestic market, enabling different sectors to reap the benefits. A method around this is to look at the entire value at world market costs of the oil and fuel bought. In 2008, this was $590 bln, or 36% of 2008 GDP; this 12 months, I forecast it to be $340 bln, or 27% of 2009 GDP.

Russia exports round 5 mln bpd of oil, 2.5 mln bpd of oil merchandise and 200 bln m³ of gas, producing export revenues of $280 bln from hydrocarbons in 2008, or 63% of whole export revenues. Overall, commodities account for greater than 90% of exports. Because of this, it is the oil price that acts as the important thing determinant of the trade and current account balances.

ˆ Oil determines the reference RTS Index degree. For much of its existence, a fairly good rule of thumb for the extent of the RTS Index has been 22 instances the oil price minus 200. This framework explains not solely the 2,000 point fall within the index in 2008<09, but also the 300 point bounce that we have enjoyed over the past couple of months.

ˆ Spreads are the principle secondary factor. Though spreads are themselves decided by the oil value (if the oil value rises $10/bbl from current levels, they move by around 75 bps, and if it falls, they rise by twice this amount), the addition of spreads improves the R2 of an index model from 83% to ninety%. A model together with spreads offers the truthful RTS Index stage as 16 occasions the oil price

minus 250 plus 1,000 divided by the money bond spread.
– To quantify the links; I calculate that RTS earnings transfer up by around 9% for every 10% enhance within the oil value. This is because 78% of the index is made up of commodity stocks, whereas the home stocks comprising the rest of the index profit from the rising ruble, which moves up by a round 3% f or e very 10% i ncrease in t he o il p rice. Moreover, a s spreads are oil worth dependent, so too is the P/E ratio, as fair worth moves 5% for each 10% move in oil.

– Take revenue unless you’re an oil bull. At an RTS Index stage of 800, the market is already pricing in $50/bbl oil and money bond spreads of four hundred bps, that are fairly near present levels. A fall within the petroleum nightmare strain oil price to underneath $forty/bbl would drive the RTS Index all the way down to below 600, while a break above $60/bbl would take it up to 1,000. Traders who suppose that the oil value is more likely to fall back over

the summer season ought to subsequently look to take profit now.
– The macroeconomic framework will remain oil price dependent. At market costs, Russia’s hydrocarbon production makes up one third of its complete stage of GDP, in addition to half of federal government revenues and 60% of exports. As we’ve got already shown, this means that the ruble has for use as the balancing issue between the oil worth and the economy.

– What could break the link between Russia and oil. Prior to now, the link has been damaged on the upside by geopolitics (the events of September eleven, 2001) or a robust impartial theme (global stability and the rise of the center class in 2007) and on the downside by collapse (Russia’s default in 1998) or worry (the YUKOS case). Whereas US President Barack Obama’s reset of relations between the

US and Russia supplies a fair wind, it is unlikely to overwhelm the skepticism ensuing from company governance scandals and low payout ratios, and the market is prone to struggle to escape from its oil worth dependency for the time being.

Creator Box Jeffrey F. Combs has 1 articles on-line
Jeffrey F. Combs, fifty two, MBA, a veteran of Wall Street (Morgan, Stanley; Lehman Brothers) has been living and investing in Russia since 1995. He’s a frequent speaker at Investment Conferences, and thought of to be an authority on the Russian and CIS funding markets.

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