China helps bridge Russia’s investment gap

Euromoney, June 2014

A new round of joint investments by the sovereign wealth funds of Russia and China is well-timed. As western capital has fled Russia in light of its incursions into Ukraine, where’s the money going to come from in future? China might be the answer – or part of it.

In May the Russia-China Investment Fund, a joint venture between the China Investment Corporation and the Russia Direct Investment Fund, announced a series of new investments, all of them in Russia. The fund was set up between the two sovereign groups in 2012 with a $1 billion commitment apiece from the Russian and Chinese side, and prior to these deals had made only one investment, a $200 million commitment to Russia Forest Products, a forestry company in Siberia.

“Including the deals that we will be announcing, we would get to another 15 to 20%” of the total assets being deployed, Sean Glodek, director at RDIF, told Euromoney shortly before the deals were announced. That suggests the new transactions involve about $400 million.

That’s not a significant figure in itself, but right now Russia needs all the capital it can get. “Given the strains between Russia-west relations, Chinese investment will be given even more priority by the government now,” says Vladimir Kolychev, chief economist for Russia at VTB Capital. Russia’s own central bank has said that around $63.7 billion left Russia in capital outflows in the first quarter, and the IMF is forecasting $100 billion of outflows for the whole year.

How much difference can China make to that? Not much in portfolio flows – the country just doesn’t have the institutional investor base – but in FDI or other forms of direct investment, there may be more potential. “It’s actually been more words than actions so far,” says Kolychev. “If you look at FDI it’s been pretty small both ways: from China into Russia accounts for only $2 billion over the last five years, and Russia doesn’t have any meaningful FDI into China.” But then again, not everything shows up in the FDI data: take the $270 billion supply deal China National Petroleum Corp signed with Russia last year that involved a $70 billion pre-payment to Rosneft.

Indeed, might we see the renminbi become more prominent in Russia? The two countries have been trading in one another’s currencies since November 2010. VTB is an example of a Russian bank to have raised a dim sum bond in RMB. The ruble-renminbi is a tradable instrument in both Moscow and Shanghai, with volumes climbing, and bankers report that trade contracts involving Russia are increasingly being signed in renminbi. “Given the threat of sanctions on dollar payments, that does make sense, from both sides,” says Kolychev. “From the Chinese, given their aspirations for the RMB to become the next reserve currency; and for Russia, to become more diversified in terms of the currency settlement for their trade flows.”

For his part, Glodek says that the new investments – in Vcanland, a developer of tourism infrastructure and senior living communities; the first ever railway bridge over the Amur River on the Russia-China border; and in logistics services – were a long time in the making, and not created just to address concerns about fund flows. “The cooperation with China has been in place for a couple of years now,” he says. “It just coincides with the general mood. But I would agree there is more focus in Russia to explore opportunities with China, and with Asia in general.”

RDIF is a curious looking sovereign wealth fund: it invests almost entirely inwards rather than outwards, and is sort of a federation of joint ventures and funds signed with people all over the world. In fact, the range of partners is positive for Russia at a time it is being shunned in the west. “It’s not all bad,” Glodek says. “When you look at the funding structure of RDIF, we lined up over $10 billion of investment capital in joint ventures and funds, and pretty much all of this was from China, Asia and the Middle East. Russia is not as reliant on Western Europe as some investing in public markets would expect.”

While RDIF makes progress, so too does its counterpart in Kazakhstan, Samruk-Kazyna. In May its deputy chief executive, Yelena Bakhmutova, told Euromoney that the fund was ready to sell three banks that were nationalized during the country’s financial crisis. “It is almost done,” she says.

Specifically, the sale of Temir Bank, 93% of the shares in BTA Bank, and 16% in ALB (Alliance) “will be finalized within the next two months,” she says. “We are still waiting for some approvals from the authorities for the buyers, but from the side of the fund and the government, all the necessary decisions are already made.”

If true, this would be a big step: the rehabilitation of Kazakhstan’s banking sector has been painful and sometimes embarrassing, particularly the alleged theft of $6 billion of BTA assets by Mukhtar Ablyazov, whose exploits have been covered at length in Euromoney.

But even this will be only a relatively small part of Samruk’s overall task. The fund holds assets in almost 600 Kazakhstan companies, in an arrangement that mirrors that of Malaysia’s Khazanah; rather than investing, its priority is more to restructure companies and divest them back to the market. In May President Nursultan Nazaerbayev said that over 100 Kazakh institutions would be readied for privatization, including the major railway and oil and gas companies, or their subsidiaries. Bakhmutova says the next to be sold will be KEGOV, the electricity grid company, with an IPO to happen by December. Sales will be a mixture of auctions, local and international IPOs. “Our benchmarks are Temasek and Khazanah,” she says.