The consensus view is that Russia is not a growth story. We fully agree. Over the next three years, we expect annual sustainable free cash flow growth to be close to zero. When companies do not see many growth opportunities, they normally return cash to their shareholders or pay off debt.
The consensus view is that Russian companies on average are expected to pay high dividends. Bloomberg consensus forecasts show that Russia has the highest expected dividend yield in the world among large equity markets. We fully agree with this as well. For the funds under our advisory, we expect the dividend yield to be 9%-10% on average for the next three years.
We see more in Russian equities than just a high dividend yield.
We expect Russian companies to generate much more cash than they are expected to distribute to shareholders. Consequently, there is potential for dividend pay-out ratio increases and buybacks. It is not in our base case scenario, but we view this as a positive optionality. We estimate that there is potential for up to 30%-70% growth in distributions to shareholders in the case that this optionality is realised.
What is in our base case scenario is that stocks prices are likely to move close to their fair values. For the market overall, we see 20% upside to the fair value level. For the funds under our advisory, it is 45%-55%. We expect this potential to be realised over the next three to five years.
We think that this picture of the Russian market is rather resilient:
- The government budget, consumers and the Russian currency market are all living in a world with USD 40 a barrel oil prices already due to the budget rule
- We believe there is a low risk that oil prices will drop to below USD 40 per barrel and settle there for the long term
- Since 2017, inflation has been low and close to the US inflation rate
- The risk of material sanctions against Russia is limited by the boomerang effect
- Non-material sanctions do not matter.