bne IntelliNews October 2018 by bne Media Ltd

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Danske Bank’s Estonian branch handled up to €26bn of Russian money in one year Russia’s domestic debt under pressure as foreigners pull out ahead of possible “crushing” US sanctions

October 2018

Fast fashion’s race to the frontiers

Special focus: Russian Stock market stories in a time of uncertainty p. 26

Busting Nord Stream 2 myths p. 40

Turkish, Russian devaluations are spilling over into Central Asia and the Caucuses p. 56

ISSN 2059-2736

Russian blue chips battle it out for the "most valuable company" title

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I Contents

bne October 2018

Senior editorial board Ben Aris (Berlin) editor-in-chief & publisher

+49 17664016602 baris@bne.eu

Clare Nuttall (Bucharest) news editor

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20 10

Eurasia & Southeastern Europe William Conroy (Bucharest) editor wconroy@intellinews.com Central Asia Kanat Shaku (Almaty) bureau chief kshaku@intellinews.com Eastern Europe Sergei Kuznetsov (Kyiv, Minsk) skuznetsov@bne.eu Subscriptions +44 753 529 6546 Stephen Vanson (London) svanson@intellinews.com Advertising Elena Arbuzova (Moscow) business development director (CIS) Design Olga Gusarova (London) art director

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6 THE MONTH THAT WAS

COMPANIES & MARKETS 10 New report alleges Danske Bank’s Estonian branch handled up to €26bn of Russian money in one year 11 Iran shifting crude exports to Gulf of Oman amid Strait of Hormuz tensions 12 UK court overturns decision to force Kazakh ENRC to hand over documents to prosecutors 13 Russia’s domestic debt under pressure as foreigners pull out ahead of possible “crushing” US sanctions 14 Croatian shipbuilder Uljanik plunged back into crisis 15 Russian elite involved in controversial Hungarian residency bond scheme

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16 Kazakh government invites international banks to pitch roles for state oil company KMG listing in London

18 After lull Iran’s rial resumes plunge as markets fret over forex squeeze 19 CEFC to sell Czech assets to its owner CITIC at just over half of book value 20 Fondul Proprietatea in talks with “numerous” potential buyers for Hidroelectrica stake 21 Russian internet major Mail.ru in talks with Alibaba and RDIF 22 “Iran’s Amazon” lays off staff as Trump sanctions hit business 22 Russian Post plans to boost e-commerce infrastructure 23 Russian online entrepreneurs Oskar Hartmann and Igor Rybakov invest $750,000 in Australian car sharing platform

COVER FEATURE 25 Who's the king of the castle? 26 Capital flight figures to make your eyes water

SPECIAL FOCUS 28 Russian stocks markets

16 Cash-strapped Belarus seeks to borrow $2bn on Chinese, Russian markets after 2019 17 Zijin taps deeper into Serbian copper sector with €1.2bn Nevsun takeover

29 Sberbank launches Russia's first ETF 31 Russia’s share buybacks are en vogue 32 Russian OFZ treasury bond pain 33 Banking’s David and Goliath

Contents

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28 34 Tinkoff Bank builds a virtual lifestyle bank 35 Retail’s battle of the Titans: Magnit vs X5 36 Residential real estate recovering

53 France's Decathlon is the latest foreign retailer to enter Ukraine's increasingly appealing market 54 The long march of Belarusian retail

EURASIA CENTRAL EUROPE 38 European Parliament condemns Hungary for violating EU values 39 Poland’s efforts to improve air quality to take up to 100 years to pay off

56 Turkish, Russian devaluations are spilling over into Central Asia and the Caucasus

42 53

58 Singapore’s CG Corp Global to acquire instant noodles production plant in Kazakhstan

40 Busting Nord Stream 2 myths 59 Iran ‘may consider rationing’ if economic strife worsens SOUTHEAST EUROPE 42 Fast fashion’s race to the frontiers 47 Turkey entering a steep recession

60 State buyout of Tsesnabank loans might hint at lingering Kazakh banking sector woes 61 Ex-Telia executives go on trial over bribes paid to Uzbekistan’s Karimova

48 Bulgaria’s ruling coalition shaken by resignations OPINION EASTERN EUROPE

62 The end of the post WWII world order

50 Dodgy dealings in the VIP terminal – The battle for Ukraine airports

66 Georgia’s security conundrum

51 FBI tried to recruit sanctioned Russian oligarch Deripaska

68 NEW EUROPE IN NUMBERS

I The Month That Was

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Politics Eastern Europe

Central Europe

Belarusian President Alexander Lukashenko reshuffled the government in August due to the fact that some senior officials “drank a lot”, which is “unacceptable,” he said. "I want to publicly say that heavy drinking is unacceptable," Lukashenko said.

Polish President Andrzej Duda called the EU an “imaginary community, from which Poland benefitted only a little”. His remark caused uproar in that part of the Polish society that does not side with the ruling Law and Justice (PiS) party, of which Duda is an iron loyalist.

Russia Today aired an interview with Alexander Petrov and Ruslan Boshirov, the two Russians accused by the UK of belonging to the Russian secret service GRU and responsible for carrying out the military-grade chemical attack on Russian ex-spy in the town of Salisbury.

Six EU member states from CEE make little or no effort to enforce laws criminalising foreign bribery, a new report from Transparency International revealed. They are among 22 countries accounting for 39.6% of global exports who are failing to enforce the OECD anti-bribery convention.

Ukraine’s main anti-graft body the National Anti-Corruption Bureau of Ukraine (NABU) has accused the Infrastructure Minister Volodymyr Omelyan of illegal enrichment and failure to declare income. The official received UAH2.17mn ($77,000) as official income during the period from January 1, 2000 to April 26, 2018, while his expenses amounted to at least UAH3.45mn only in the period from 2008 to April 26, 2015, the NABU said. Almost 42 % of Ukrainians would support their country joining Nato as the preferred option for guaranteeing security, according to a poll conducted by the Ilko Kucheriv Democratic Initiatives Foundation and Kyiv International Institute of Sociology (KIIS). A total of 35.3% back Ukraine's non-aligned status, 6.4% favour a military alliance with Russia and other CIS countries, and 16.3% were undecided, Interfax news agency reported on September 11.

Southeast Europe Turkish President Recep Tayyip Erdogan’s job approval rating fell to 44.5% in August from 53.1% in the previous month, according to a survey by Metropoll, an Ankara-based polling outfit. Erdogan’s powers were expanded after the recent election with the inception of Turkey’s first ever executive presidency which abolished the role of prime minister. Following months of delays, Bosnian lawmakers adopted key amendments to the criminal code, demanded by the European Union. Adoption of the changes will show Bosnia’s political will as a credible EU partner in fighting serious crimes, the EU delegation to Bosnia said. Gay marriage could be ruled out in Romania after senators on September 11 backed a proposal to change the Constitution so that it would state explicitly that the family is based on the marriage between a man and a woman. A referendum on the issue will be held on October 7. Political scandals seriously lowered support for Bulgaria’s ruling coalition, a poll from local agency Mediana showed. The most significant recent

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scandal surrounded a deadly bus crash in August that caused the deaths of 17 people.

Eurasia Gennady Gagulia, prime minister of the Georgian separatist republic of Abkhazia, was killed in a car accident. Gagulia’s vehicle was involved in a crash with a car whose driver was "in a state of intoxication”, and terrorism has been ruled out. The campaign for the municipal elections in the Armenian capital Yerevan was formally launched. The contest is seen as the first electoral test for the new government under Prime Minister Nikol Pashninian that took power in the spring. An Uzbek imam was sacked after urging the president to allow hijabs and Islamic beards. Since taking office in 2016, President Shavkat Mirziyoyev has pledged to liberalise Uzbekistan, but the dismissal of the imam for seemingly exercising his free speech and the recent arrests of bloggers on Islamic matters appears to demonstrate an unwillingness to follow through with certain promises. Four Tajik opposition groups officially set up a coalition in Warsaw. The Islamic Renaissance Party of Tajikistan (IRPT), Movement for Reforms and Progress, Forum of Freethinkers of Tajikistan and Association of Migrants of Central Asia had been in talks for a year before announcing the coalition. Iranian women adorned with more than 150 grammes of gold are now banned from exiting the country. The move might be seen as one of the more extreme measures introduced since Iran’s economy was destabilised by the reintroduction of heavy sanctions against Tehran by the US.

The Month That Was I 7

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Economics Eastern Europe Russian statistics bureau Rosstat revised the GDP growth estimate for the second quarter from the previous 1.8% year-on-year to 1.9% y/y, and for January-June 2018 from 1.6% to 1.7% y/y, upon the publication of the production GDP breakdown data. The estimate for first-quarter economic growth remained unchanged at 1.3%.

As of August 1, Belarus' external debt totalled $16.5bn, down by $179mn or 1.1% from the beginning of the year according to the Finance Ministry. In January-July 2018, external state borrowings totalled $1,506bn, including $600mn in eurobonds, $515.1mn borrowed from Russia and $302.5mn from Chinese banks.

Central Europe After almost a year of sub-3% growth, Russian consumer prices were back to 3.1% y/y, up from 2.5% y/y for July. VTB Capital (VTBC) said in a note that the acceleration was foremost driven by food (+0.56pp out of the total 0.6pp). Russia's federal budget surplus in January-August 2018 amounted to RUB1.96 trillion ($28bn) or 3.1% of GDP, up from RUB1.38 trillion of 2.5% of GDP as of end of July. Although federal spending seasonally peaks in November-December, the Finance Ministry is close to recording the first budget surplus for the whole year since 2011 on high oil and gas revenues. The budget was initially drafted at $43.8 per barrel oil price and 1.3% of GDP deficit. Ukraine’s government will raise minimum wages for a second time to about UAH4,200 a month ($149) in 2019, Ukrainian President Petro Poroshenko announced during his visit to the city of Vinnytsia on September 8. Ukraine’s consumer prices remained flat in August compared to July, while annual inflation slightly accelerated to 9% year-on-year growth (from 8.9% y/y in July), state statistics service Ukrstat reported on September 10. Belarus' foreign trade deficit widened in January-July. The foreign trade in goods soared 20.9% y/y to $39.3bn, however, the trade deficit jumped to $1.6bn in the same period of the year vs $929.7mn in January-July 2017. Belarus' foreign trade surplus in goods and services made up $403.3mn.

The Czech government agreed with unions to spend 8% more on public sector wages in 2018, up from the planned 6%, Prime Minister Andrej Babis and Finance Minister Anna Schillerova said after meeting with union representatives. The increase will not be across the board. Many workers will get a 4% increase; policemen and soldiers will get 2% extra, plus danger pay; and teachers should get 10% more.

Polish PMI continued its falling streak in August. PMI fell 1.5 points to 51.4 in August, a 22-month low, IHS Markit reported, indicating that the reduction of the current strength of Poland’s industrial sector could be imminent. Czechia’s economic growth decelerated to 2.4% y/y in the second quarter of 2018 from 4.2% growth in the first quarter as the economy runs up against its structural limits, the Czech Statistics Office (CSU) said. The main reason is a strong base effect from the previous year, but the slowdown was also due to depleted capacities of the Czech economy, analysts say.

Southeast Europe Remittances sent home by Albanians working abroad jumped 11.6% y/y to €182mn in the second quarter of 2018, after rising by 8.9% y/y in the previous quarter, the central bank said. Montenegro’s public debt jumped to 70.08% of GDP in January-June, standing at €3.1bn at the end of June. The country's public debt has increased sharply since 2008 when it stood at just 29% of GDP.

The investigation into money laundering at the Estonian branch of Danske Bank covered $150bn (€130bn) worth of transactions, a report by the Wall Street Journal claimed. Denmark’s biggest lender Danske Bank is carrying out an internal investigation into inadequate monitoring of money it handled between 2007 and 2015, with results expected to be made public this month. The Czech National Bank might raise the main interest rate twice before the end of 2018, governor Jiri Rusnok told Reuters. The central bank’s board will meet on September 26 and the market anticipates with higher than 70% probability there will be yet another hike.

Serbia’s exports amounted to €9.4bn in January-July, rising 8.5% y/y, according to the latest figures from the country's statistics office. In US dollar terms, the value of exports was $11.3bn, up 19.7% y/y.

Eurasia The Armenian government will increase the guaranteed minimum pension by around 60% to AMD25,500 (€44), an advisor to Prime Minister Nikol Pashinian revealed. There will be no more extreme poverty among pensioners, said Mesrop Arakelyan, a lecturer at Yerevan State University.

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I The Month That Was

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Business Eastern Europe

Central Europe

The Kyiv court of appeals has ruled to seize the shares of the Ukrainian subsidiaries of Russian state-owned banks Sberbank, VTB and Prominvestbank following a claim filed by 17 companies and one person – ex-chairman of the board of nationalised PrivatBank Oleksandr Dubilet – that lost their assets in Crimea as a result of its annexation by Russia in 2014.

Passenger numbers at Hungary’s Budapest airport hit a new record in August. Hungary’s tourism industry had its best year ever in 2017, and the sector is set for another record year in 2018 as hotels in Budapest and at Lake Balaton have been operating at close to full capacity during the summer.

Russian internet major Mail.ru, its shareholder mobile operator MegaFon, and the sovereign Russian Direct Investment Fund (RDIF) are entering into a strategic partnership with Chinese e-commerce major Alibaba, MegaFon said in a press release on September 11. The goal of the partnership is to "integrate Russia’s key consumer internet and e-commerce platforms and launch a leading social commerce joint venture in Russia and the CIS." Russian national air carrier Aeroflot is moving away from using foreignmade planes to buying Russian-made planes and says it will place a new order for 100 Sukhoi Super Jets domestic short-distance aircraft with about 87-seat capacity.

After years of stagnation, sales in Slovakia's chemical and pharmaceutical industry expanded by 7.1% y/y in the first half of 2018 to €5.11bn, president of the Chemical and Pharmaceutical Industry (ZCHFP) Roman Karlubik told local media. Bridgestone is planning a €28mn expansion in Hungary. The local unit of the Japanese tyre maker announced the launch of a HUF9.2bn (€28.3mn) investment at its base in Tatabanya, 100km west of Budapest, which the government will support with a HUF826mn grant. Poland could have 10 gigawatts of offshore wind capacity in the Baltic Sea by 2025-2030, a government official said. The Polish power sector is facing an increased cost of electricity generation, as its coal-fired power plants – which produce some 80% of its electricity – pay more for permits to emit carbon dioxide. Troubled Hungarian bus manufacturer Ikarus Egyedi failed to reach an agreement with its main creditor, MKB Bank. Hungarian investor Csaba Meszaros, the company's sole owner, has offered his 99% holding to creditors but MKB Bank as the biggest creditor rejected the offer.

Russian Railways (RZD) could invest RUB7 trillion to RUB10 trillion ($100bn$144bn) until 2025 under its long-term development program, deputy head of state railway monopoly deputy head Alexander Misharin said. The so-called 'Belousov list' of Russian industrial majors could participate in RZD investment projects, the Minister added.

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Turkey into a currency crisis that threatens to morph into a debt and liquidity crisis. The EBRD could buy stakes in Slovenia’s Nova Ljubljanska Banka (NLB) and Abanka that are due to be privatised in 2018 and 2019 respectively, Reuters reported. Slovenia committed to selling 75% of its largest bank NLB and the whole of Abanka in exchange for the European Commission’s approval of state aid to those banks in 2013. Croatia expects tourism to generate revenues of €12bn this year, €1bn more than in 2017, Tourism Minister Gari Cappelli said. Tourism is one of Croatia's key economic sectors and an important contributor to GDP.

Eurasia Turkmenistan launched its largest gas and steam-based power plant to date following the completion of an upgrade. The launch will allow the remote Central Asian nation, desperate for revenues in its fight against economic turmoil, to boost electricity supplies to Pakistan following the construction of a new transmission line. Singapore’s CG Corp Global agreed to acquire an instant noodles production plant in Kazakhstan. Kazakhstan's newfound focus on food production forms part of its efforts to diversify the country’s economy away from dependence on oil exports. Azerbaijan wants to boost its wine exports and open up new markets, anticipating a 50% increase in wine produced this year. This is in line with broader efforts to diversify its economy away from overdependence on the hydrocarbons sector.

Southeast Europe Turkey’s President Recep Tayyip Erdogan signed a decree early on September 13 requiring that only the Turkish lira is used in the buying, selling and renting of real estate and leasing of vehicles. It looks like another move to bolster the lira, the nosediving value of which has plunged

A nappy shortage hit Iran as the ongoing forex turmoil left producers without raw materials. Iranian government officials have said that they will do their level best to address shortages of nappies, incontinence pads and sanitary towels now besetting the country.

The Month That Was I 9

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Finance Eastern Europe Russia’s domestic debt – the OFZ treasury bills – is under pressure as foreigners pull out of the market ahead of possible “crushing” sanctions that could be imposed on Russia this autumn. The Russian Government Bond Index (RGBI) reached its lowest point since July 2016, losing 2.19 pp over the last week alone. Long-term dated OFZs have depreciated by 12% since April, and the price of the nine-year bonds have risen from a coupon of 7% per annum in April, to between 9.1% and 9.2% now. The Ministry of Finance cancelled auctions in the last week because of the volatility on the market. Russian state railway monopoly Russian Railways (RZD) plans to buy back three issues of Eurobonds maturing in 2020, 2022, and 2024 for a total $700mn, Reuters said on September 13 citing the company. Russian assets are under heavy sanction risk pressure and some companies might try to use the momentum to buyback its debt off the market cheaply. The influential head of Russian state oil major Rosneft, Igor Sechin, does not see market conditions as fit to kick off the $2bn share buyback of the company, Interfax and Reuters said on September 12 citing Sechin's comments. Uncertainty over the $2bn buyback programme – the company’s first ever – could undermine Rosneft's investor makeover drive. Previously the company started to deliver on a promise to cut debt, and scale back capex in an effort to improve capitalisation. Russian pharmacy chain group 36.6 plans to make and open-subscription SPO worth 257% of current capital, the company operating pharmacies 36.6, A5, A.v.e, and Gorzdrav said on September 11. The Belarusian government is going to borrow up to $2bn on Chinese and Russian markets after 2019, while the

nation is not gong to cooperate with the International Monetary Fund (IMF) due to the fact that the country's authoritarian President Alexander Lukashenko seeks to avoid "a shock for residents".

cari Wineries. The BET index will thus include 15 companies and it will cover more economic sectors relevant for the country's economy.

Net capital outflow from Russia in January-August 2018 jumped 2.8-fold year-on-year to $26.5bn, according to the data from the Central Bank of Russia (CBR). In August alone net capital outflow amounted to $5bn, as compared to July's data. Previously, due to the worsening external environment and higher sanction risks, the CRB increased its net capital outflow forecast for 2018 from $16bn to $30bn, at an average oil price forecast of $67 per barrel.

Eurasia

Central Europe The government body created after the country’s third-largest bank ABLV went under has come up with a new action plan for a more efficient fight against money laundering in Latvia. The plan follows the evaluation of Latvia’s efforts to combat money laundering from the Council of Europe’s Moneyval Committee. Amidst the economic boom, Czechs are less willing to pay for credit card loans, the latest data show. In July, customers took out credits for CZK19.5bn (€760mn) – the lowest number since August 2010. Polish state investment fund PFR acquired a 35% stake in Solaris Bus & Coach, a bus maker specialising in electric and other low-emissions bus types that it sells to city transport companies in Poland and internationally. The previous day, 100% of Solaris was sold to Spanish train and tram maker CAF.

Iran’s Tehran Stock Exchange hit a high as ordinary investors struggled to find investment options amid the country’s economic difficulties. The exchange’s main index, the Tedpix, registered a high of 559bn shares worth IRR8.433 trillion ($200mn) traded on September 10. Bishkek-based Highland Capital has received backing from the World Bank’s International Finance Corporation for establishing the first institutional private equity fund with a focus on Kyrgyzstan. The new fund hopes to expand access to finance for SMEs in the country by providing equity and equity-like financing in a number of sectors including services, healthcare, education and media. Mongolia asked Russia to provide financial assistance worth $1.5bn for joint projects in the energy sector, including the modernisation of HPP-3 and HPP-4 hydropower plants. During winter, both heating and power plants rely heavily on coal in Mongolia's capital Ulaanbaatar, which accounts for almost half of the country’s population.

Southeast Europe The Romanian bourse’s blue chip index BET expanded to include newly listed foodservice operator Sphera Franchise Group, and winemaker Pur-

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I Companies & Markets

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New report alleges Danske Bank’s Estonian branch handled up to €26bn of Russian money in one year IntelliNews Pro

anske Bank’s Estonian branch could have handled up to $30bn (€26bn) of non-resident money, mostly from Russia and other former Soviet republics, in 2013, a new report probing the dealings of the branch alleged on September 3, according to the Financial Times. The report by Promontory Financial, a consultancy, was commissioned by the bank itself, as it is trying to establish the extent to which its small Estonian branch handled money flows from the east and how much of the handling happened under the radar of the bank’s monitoring. “NRP [non-resident portfolio] transaction volume peaked in 2013 with the number of transactions approaching 80,000 that year, and the transaction volume approaching $30bn,” the report concluded, the Financial Times reported. “It’s a truly breathtaking amount for such a small branch. You can’t have that amount flowing through without it raising questions,” the UK newspaper quoted a person with knowledge of the investigation, which covers the years 2007 through 2015. It remains unclear how much of the $30bn worth of flows was in fact money-laundering operations. Interest in Danske Bank’s Estonian branch and its handling of non-resident money began in February when the first

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reports on likely money laundering at the branch appeared in the Danish and UK media. Subsequent reports hinted that the scale of illegal operations was larger than originally suspected. Danske Bank has so far escaped serious repercussions for failing to monitor money flows at its Estonian branch, but the reports of the past couple of months pile up pressure on the lender. It is also facing criminal investigations in Denmark and Estonia. The revealed scale of money laundering and the sheer amount of non-resident money going through Danske Bank also casts a spotlight on unmonitored money flows from Russia and other countries of the former Soviet Union into the EU. So far, Eurozone member Latvia has borne the brunt of the allegations because of its boutique banks industry that specialised in non-resident deposits. With Danske Bank’s Estonian branch appearing involved on an enormous scale, Tallinn can also expect scrutiny from the Eurozone authorities. The European Central Bank, which is coming under fire for overlooking problems in the Baltic states, keeps saying it does not have adequate control powers and has called upon member states to better cooperate on tracking down suspicious transactions.

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Companies & Markets I 11

Iran shifting crude exports to Gulf of Oman amid Strait of Hormuz tensions bne IntelliNews

ran is replacing its main oil export terminal located deep within the Persian Gulf with a facility on the coast of the Gulf of Oman, President Hassan Rouhani said on September 4. The move is intriguing in that most energy exports from Persian Gulf countries have to pass through the Strait of Hormuz to reach the open ocean. Iran in recent weeks has several times indicated that it would be prepared to blockade the waterway should the US attempt to shut off world oil markets to Iranian crude exports – due to take effect on November 5 – impact on the Islamic Republic’s lifeline oil revenues. Conceivably, the opening of a replacement main oil export terminal on the Gulf of Oman – a marginal sea that is part of the Indian Ocean – could leave Iran able to ship big volumes of oil, but Saudi Arabia, Iraq, Qatar, Kuwait and the United Arab Emirates unable to export vast volumes of oil and gas. Rouhani announced the terminal switch as he opened a new energy complex in Asalouyeh, a city on the Persian Gulf coast. He said some export orders had already been shifted to the replacement facility and the transfers would be completed by the end of his second term as president in 2021. The facility on the Gulf of Oman, sometimes referred to as the Sea of Oman, is in Bandar-e-Jask. “Very strategic issue for me” "This is very important for me; it is a very strategic issue for me. A major part of our oil sales must move from Kharg [Island in the Persian Gulf] to Jask," Rouhani said in a televised speech.

Rouhani in July said Iran has always guaranteed the security of the Strait of Hormuz, but warned that the US "should not play with the lion's tale". In late August, Iranian General Alireza Tangsiri, head of the Islamic Revolutionary Guard Corps (IRGC) naval forces, told Tasnim News Agency that Iran has control of the Gulf and the strait and warned the US Navy to not have a presence there.

The last time there was a major disruption to the flow of oil through the strait was in 1984 during the Iran-Iraq war when both sides bombed each other's oil facilities and tankers. In further remarks relayed by state television, Rouhani was defiant in the face of the imminent threat by the US to block Iranian oil exports, saying: “We will continue by all means to both produce and export… Oil is in the frontline of confrontation and resistance.”

“Oil is in the frontline of confrontation and resistance” Since May, when Donald Trump walked out of the Iran nuclear deal and announced the sanctions snapback, there has been a marked reduction in Iranian oil exports. Between August 1 and 16, total Iranian oil and condensate exports sank by an average 600,000 barrels per day (b/d) compared to July loadings, largely due to greatly reduced flows to India, Platts cFlow preliminary tanker tracking data shows. Overall exports amounted to 1.68mn b/d in contrast to the July average of 2.32mn b/d. Discounts, barter trades and smuggling Analysts expect Iran to use discounts, barter trades and smuggling, as well as other tactics, to keep towards 800,000 b/d of its oil flowing after the US sanctions kick in. Iran’s Oil Minister Bijan Namdar Zanganeh has lately remarked that the country would find “other ways” to keep its crude in the market. In the last era of oil industry sanctions, the OPEC nation disabled tracking systems on its fleet of tankers, concealing

US Secretary of State Mike Pompeo rebuffed that claim on Twitter, stating: “The Islamic Republic of Iran does not control the Strait of Hormuz.” Some 35% of all global oil exports pass through the strait, according to US estimates, making it the world’s most important oil chokepoint. An IEA 2016 estimate showed 18.5mn b/d of oil were shipped through the strait. If it proved unpassable, oil prices would skyrocket across the globe.

By shipping most oil exports from a facility on the coast of the Gulf of Oman, Iran can greatly cut the number of tankers it needs to send through the Strait of Hormuz chokepoint.

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I Companies & Markets

destinations and volumes of oil exports. Millions of barrels of Iranian oil were unaccounted without the trackers. Almost 200,000 barrels a day of the country’s post-sanctions oil sales could be undisclosed, Robin Mills, chief executive officer of consultancy Qamar Energy in Dubai, told Bloomberg on September 3. “Exports at these levels will be important in cushioning the financial blow to Iran, but will not have a major impact on the world market.”

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The news agency’s report also noted that China, Turkey and India would likely continue to buy Iranian oil after the resumption of sanctions, with China’s smaller refineries taking some of the murky, undisclosed shipments, according to Iman Nasseri, managing director of the Middle East at FGE London. In total, Iran could export 800,000 b/d well into 2019, including some 20,000 barrels sent by trucks to Iraq, Afghanistan and Pakistan, he said.

UK court overturns decision to force Kazakh ENRC to hand over documents to prosecutors bne IntelliNews

UK appeals court has overturned a decision forcing Kazakh mining company Eurasian Natural Resources Corporation (ENRC) to hand over documents to prosecutors. ENRC is suspected of using bribery to acquire mines in Kazakhstan and Africa. In July, the mining tycoons who founded ENRC accused their own lawyer of conspiring with the UK’s Serious Fraud Office (SFO) to incriminate them and fleece them for millions of pounds. Some observers believe the case brought up two months ago was aimed at stretching out the criminal proceedings against the ENRC founders and frustrating efforts to bring criminal charges against them. In late June, an arrest warrant was issued for the CEO of the trio’s restructured group, Eurasian Resources Group (ERG). After investigations against ENRC were launched in 2013, the founding oligarchs – Alexander Machkevitch, Alijan Ibragimov, and Patokh Chodiyev – formed ERG. They and the Kazakh government took the company private in 2013 in a $4.5bn buyout, after the investigations into corruption allegations began. The newly restructured group claims to have zero tolerance of corruption. ERG currently stands as the world's largest ferrochrome producer by chrome content and one of the key producers of iron ore and alumina worldwide. It represents more than 4% of Kazakhstan’s GDP and about one-third of its metals and

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mining industry. It is also a principal supplier of electricity there. The main production assets of ERG in Kazakhstan are: TNC Kazchrome, the Sokolov-Sarbai Mining Production Association (SSGPO), Aluminium of Kazakhstan, Kazakhstan Aluminium Smelter (KAS), Eurasian Energy Corporation (EEC), Shubarkol Komir and Transcom LLP. The formerly FTSE 100-listed company’s founders accuse London lawyer Neil Gerrard, who works for Dechert LLP, of plotting with the SFO to leak details of a private investigation into an ENRC whistleblower that Gerrard was originally hired for by the trio. Moreover, they claim Gerrard blew the details of his findings out of proportion. Gerrard refutes the conspiracy hypothesis. ENRC’s current lawyers are demanding that the SFO disclose their emails, calendar entries, notebooks and phone records.

“ENRC is suspected of using bribery to acquire mines in Kazakhstan and Africa”

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Companies & Markets I 13

Russia’s domestic debt under pressure as foreigners pull out ahead of possible “crushing” US sanctions IntelliNews Pro

ussia’s domestic debt – the OFZ treasury bills – is under pressure as foreigners pull out of the market ahead of possible “crushing” sanctions that could be imposed on Russia this autumn. The Russian finance ministry has called on investors not to panic and has even suggested that it will buy back the debt if the US carries through on threats to ban US investors from holding or trading Russian debt, writes finanz.ru. The momentum of the sell off gathered pace in the last week. The price of Russian government bonds has fallen for four consecutive days, and the ruble exchange rate is approaching RUB70 to the dollar – a two-year low. “Been seeing pretty continuous and steady selling pressure across Russian assets over the past week, as the locals seem to be freaking out around new sanctions risks emanating from these Congressional hearings late last week. The ruble was well over 70 to the greenback this morning, and local rates are seeing a lot of pain,” Tim Ash, senior sovereign strategist at BlueBay Asset Management said in a note. “Sense it’s all this discussion around sanctioning sovereign debt, which is putting grist into the mill. The Russians seem to be making life worse for themselves by constantly talking

“The locals seem to be freaking out around new sanctions risks emanating from these Congressional hearings late last week”

Long-term dated OFZs have depreciated by 12% since April, and the price of the nine-year bonds have risen from a coupon of 7% per annum in April, to between 9.1% and 9.2% now. The Ministry of Finance cancelled auctions because of the volatility on the market.

“Non-resident investors are disposing of their Russian government bonds and exchanging their rubles for other currencies” Non-resident investors are disposing of their Russian government bonds and exchanging their rubles for other currencies, driving the ruble to a new lows. On September 7 the ruble dropped to RUB69.95 to the dollar – a record low since March 2016. The euro passed the RUB80 mark, and the dollar was only 12 kopeks shy of breaching the RUB81 mark. The OFZs have been popular with western investment funds in the last few years as they offered an attractive mix of high yields backed by Russia’s large hard currency reserves. But now they are not waiting for new sanctions to be imposed and are dumping OFZs to be on the safe side. The proportion of foreign investors has dropped to 26-27%, a low since December 2016, although it reached 34% in April, the Russian finance ministry reports. Over the last five months, non-residents have disposed of a record RUB600bn worth of bonds.

about it – ministers/bankers all the time talking down the risks, which just accentuates markets concerns as they assume these dudes know something. My sense is they don't – as it’s not as though they have good lobbying lines into DC these days.” The Russian Government Bond Index (RGBI) reached its lowest point since July 2016. The last time the market saw such a rapid drop in prices was in January 2016 when the oil price was $27 per barrel. In August the ruble fell 4.05% – a record since December 2014.

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I Companies & Markets

bne October 2018

Croatian shipbuilder Uljanik plunged back into crisis

Carmen Simion in Bucharest

roubled Croatian shipbuilder Uljanik said on September 4 its accounts have been blocked again. The announcement came after the company lost four vessel construction deals due to its inability to deliver the vessels according to contract stipulations. The crisis at Uljanik Group, which owns both Uljanik and 3. Maj shipyards, seems to be deepening since its workers went on strike over unpaid salaries on August 22. The strike ended on August 31 as the workers started to receive their July wages, after the government secured the funds for unpaid salaries by increasing its state guarantee for previous loans issued to Uljanik in 2015 and 2016. However, the announcement that two companies of the SIEM Group, Automarine Transport and Siem Shipping, have unilaterally cancelled contracts for the construction of four vessels will only worsen the financial situation of the Pula based shipyard.

“The government is looking for a strategic partner” “Since launching there have been significant delays and increasing uncertainty about the builder’s ability to deliver the vessel within an acceptable timeframe. The company has therefore decided on the 1st September 2018 to cancel the vessel. The three remaining vessels in the series (hulls 515,524,525) are also heavily delayed. The company has therefore exercised its option to cancel all remaining vessels to be built by Uljanik,” SIEM said in a statement. Uljanik started out back in 1856 as the main naval base of the Austro-Hungarian empire, building and repairing warships.

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In happier times: the Willem van Rubroeck, a self-propelled cutter suction dredger built by Uljanik shipyard, being launched into the sea in August 2017.

Rebuilt after the Second World War, it started building giant tankers and other very large ships in the 1960s, later specialising in car carriers as well. Since the beginning of the 21st century it has entered new niches including complex newbuildings. The region’s second biggest shipyard, the 3 Maj shipyard in Rijeka was integrated into Uljanik group in 2013. Despite its efforts to enter profitable new niches, the shipyard was reported earlier this year to be in crisis. In January, the European Commission cleared Zagreb’s plans to grant the shipyard a state guarantee for a €96mn loan, allowing Uljanik to meet its urgent liquidity needs while preparing a restructuring plan. This prevented the shipyard going out of business immediately, the EC said at the time. In March, Uljanik chose Kermas Energija as strategic partner in its recapitalisation process. The Uljanik Group is now awaiting a decision from the European Commission on its restructuring plan. However, there has been speculation in local media that the government is looking for a strategic partner other than Kermas Energija for Uljank. The owner of Kermas Energija told Hina news agency in an interview that if Uljanik had changed its mind and wanted another strategic partners, he would withdraw and set no other conditions than the repayment of a €1.26mn loan his company had given to Uljanik. Meanwhile, the anti-corruption police, Uskok, have started a preliminary investigations at the Uljanik Group, according to news portal Total Croatia News. Uljanik Group posted a net loss of HRK364.8mn (€50mn) in the first half of the year, triple the HRK113.2mn loss the same period last year.

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Companies & Markets I 15

Russian elite involved in controversial Hungarian residency bond scheme IntelliNews Pro

nfluential Russian citizens, including politicians and the heads of state companies, were granted permanent residence status in Hungary under the now defunct residential bond scheme, according to an investigative report by 444.hu and Russian site Novaya Gazeta released on September 11.

Hungarian opposition parties called for the parliament's national security committee to be convened in connection with the recent reports. The names were leaked to reporters earlier this year. In January, non-profit investigative journalism centre Direkt 36 and 444 received an envelope containing the names of citizens of Russia and several other countries, who, according to the anonymous sender, had received the permits. The list includes four relatives of Sergey Naryshkin, the head of Russia’s foreign intelligence service (SVR). A successor of the Soviet-era KGB, the agency is tasked with gathering intelligence and conducting espionage activities outside of Russia. Vladimir Blotskiy, a member of the Russian Duma, confirmed that he and his family members had received permits through the bond programme.

so through designated intermediary companies with opaque ownership structures. The former head of the parliament’s budgetary committee Antal Rogan, who is now in charge of overseeing government communications, personally selected the companies in charge of selling the bonds. Seven of the eight companies are registered in places considered as tax havens. As the interest on the bonds was higher than market levels, the state lost some HUF20bn (€61.3mn) on the scheme, while the eight intermediaries received more than HU156bn in revenues. Green opposition party LMP called for the parliament's defence and law enforcement committees to be convened to hear officials from the national security services, the immigration office, and the government. The spokesperson for Parbeszed, a close ally of the Socialists, demanded that bondholders residing in Hungary should be banned from the country. The leader of the Democratic Coalition (DK) party’s parliamentary group said the government had allowed terrorists, criminals, and spies to enter Hungary and the EU. "The Fidesz government's scheme benefited the chief of Russian intelligence and his family members and a key Russian mafia figure," he added.

Evgenii Evstratov, the former deputy head of Rosatom, which is in charge of the €12.5bn expansion of Hungary’s Paks nuclear power plant, also appeared on the list. He was arrested on charges of embezzling 110mn rubles (€2.7mn). Under Hungary’s residency bond scheme, running from the summer of 2013 until March 2017, foreign nationals who bought securities from a licensed agent backed by the residency bonds could apply for fast-tracked permanent residency in Hungary. The threshold for the residency bond purchase was set at €250,000 early in the scheme and raised to €300,000 later on. In the four years of the scheme, the state issued nearly 20,000 resident permits to buyers and their family members. While most of the customers were Chinese nationals, permits were also issued to hundreds of Russians and dozens of immigrants from the Middle East and Africa. The Hungarian authorities had previously refused to name the buyers. The most heavily criticised aspect of the bond programme was that foreigners did not invest in the bonds directly, but did

Relatives of Sergey Naryshkin also received residency permits in Hungary.

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I Companies & Markets

bne October 2018

Kazakh government invites international banks to pitch roles for state oil company KMG listing in London bne IntelliNews

he Kazakh government has invited international investment banks to pitch for roles in listing the KazMunayGaz (KMG) state oil company in London, Reuters reported, citing five sources familiar with the matter.

At least five more IPOs of large state-owned companies are expected to list within the next two years, culminating in national oil producer KazMunaiGas’ (KMG’s) listing that is expected to bring the privatisation to an end in 2020.

The news indicates progress in the Kazakh government’s plans for initial public offerings (IPOs) of the largest state-run companies, which are set to be floated in 2018-2020 with the goal of selling at least 25% stakes in each company.

In hopes of drawing in liquidity to the newly launched Astana stock exchange, the government wishes to also list the firms domestically. The exchange, however, is not in the position to list KMG until the second half of 2019, the report said. This is in line with the previously announced plans.

In the fourth quarter of this year, the ex-Soviet state hopes to float the world’s biggest uranium miner Kazatomprom, national carrier Air Astana and soon-to-be near monopolist of the local telecoms market Kazakhtelecom.

KMG accounts for 28% of the total crude oil and gas condensate output in the Central Asian nation.

Cash-strapped Belarus seeks to borrow $2bn on Chinese, Russian markets after 2019 bne IntelliNews

he Belarusian government is going to borrow up to $2bn on Chinese and Russian markets after 2019, while the nation is not gong to cooperate with the International Monetary Fund (IMF) due to the fact that the country's authoritarian President Alexander Lukashenko seeks to avoid "a shock for residents".

In August, Lukashenko changed the nation's prime minister, four deputies and a number of ministers in a move which he explained as necessary after attempts by the government to implement unpopular economic reforms, including reforms demanded by the IMF, and the fact that some senior officials allegedly "drink a lot", which is "unacceptable".

"We are preparing to place sovereign bonds on local markets. These are the markets of China and Russia. We hope that we will be able to borrow a total of up to $2bn on Chinese and Russian markets," Yermolovich said in a televised interview on September 9.

According to Fitch, foreign currency debt amortisation and interest payments will remain high, averaging $3.4bn in 2019-2020.

Yermolovich added that Lukashenko said earlier that a new reform programme with the IMF, "will be a shock for our residents and this cannot be done. This is why, the government has refused an IMF programme," the minister said.

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Sustained reduction in refinancing risks will depend on continued progress on diversifying external sources of financing, refinancing opportunities of bilateral debt (Russia) and the pace of local market development, the agency believes.

bne October 2018

Companies & Markets I 17

Zijin taps deeper into Serbian copper sector with €1.2bn Nevsun takeover bne IntelliNews

hina’s Zijin Mining Group has agreed to buy Canada’s Nevsun Resources, which is the 100% owner of the high-grade copper-gold Timok Upper Zone and 60.4% owner of the Timok Lower Zone in Serbia. The deal, agreed on September 5, was valued at CAD1.86bn (€1.2bn).

The transaction extends Zijin’s planned investments relating to Serbia to over $2.5bn, after the government selected it to become strategic partner in copper smelting and mining complex Rudarsko Topionicarski Basen Bor (RTB Bor). The Chinese company has pledged to invest $1.26bn in RTB Bor. In addition, Zijin Mining is obliged to recapitalise the miner with $350mn. The deal with Zijin allowed Nevsun to fight off a hostile takeover attempt from Lundin Mining Corp, which had offered CAD$4.75 per share – well below the CAD6 offered by Zijin – back in July. Zijin’s offer, which Nevsun executives recommended shareholders to accept, represented a 57% premium to the Nevsun share price on May 7, the day before

“The transaction extends Zijin’s planned investments relating to Serbia to over $2.5bn” Lundin made its offer, which was rejected in August. They claimed the Lundin offer “ignored the fundamental value of Nevsun's assets”. Referring to the deal with Zijin, Ian Pearce, chair of Nevsun's board of directors, said that the “premium transaction is an excellent outcome for our shareholders, and the result of a rigorous and competitive global process to generate maximum value for Nevsun's outstanding assets.”

Chen Jinghe, chairman of Zijin, said in a statement that as the new owner of Nevsun, Zijin would continue to advance ongoing projects. “At the Timok Project in Serbia we intend to rapidly develop the Upper Zone and bring it into production, and continue to advance and define the world-class potential of the Lower Zone," Chen Jinghe said. As part of the deal with Nevsun, Zijin Mining Group will also take over assets in Eritrea. Nevsun has significant exploration areas licensed in Macedonia, but last year citizens of the southern Macedonian town of Gevgelija resoundingly voted 'no' in a referendum on whether to allow Nevsun’s Reservoir Minerals to open two gold mines in the area. Formed in 1993, Zijin is based in Fujian, China and is a leading global mining company specialising in gold, copper, zinc and other mineral resource exploration and development. It manages an extensive portfolio, primarily consisting of gold, copper, zinc, and other metals, through investments in China and nine other countries. This follows an extensive investment spree spanning several continents over the last eight years. South China Morning Post estimated in 2016 that the company had spent around RMB7.9bn on 13 overseas deals in Africa, Asia, Australasia, Canada and Latin America. Of these, the purchase of a 49.5% stake in Ivanhoe Mines’ Kamoa copper project in west Africa was the most significant, accounting for RMB2.52bn of the total. As of close of trading on September 5, the company had a market capitalisation of HKD83.094bn on the Hong Kong stock exchange, Bloomberg data showed.

Some analysts say Zijin’s takeover would have cost more had the copper price not fallen over the summer amid growing fears of new international trade wars. China, the world’s largest copper consumer, is firmly in US President Donald Trump’s sights. Despite the recent fall in copper prices, however, long-term demand is expected to remain strong driven by, for example, infrastructure projects especially in developing Asia and wider adoption of electric cars.

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I Companies & Markets

bne October 2018

bne:FX

After lull Iran’s rial resumes plunge as markets fret over forex squeeze bne IntelliNews

he short period of calm enjoyed by the Iranian rial (IRR) was shattered on September 3 as the currency sank to another all-time low.

It took IRR130,000 to purchase $1 in late trade on the open market, according to rates tracker Bonbast.com, with the rial having lost around 15% of its value in three days. By early evening trading on September 4, the dollar was selling at 138,000, marking a year to date decline of 221.7%. Prior to that, rates of more than 140.000 were seen. Financial journalist Maziar Motamedi told AFP that the latest phase of devaluation occurred after recently appointed central bank governor Abdolnaser Hemmati on September 1 announced tighter restrictions on allocating foreign exchange reserves. "Hemmati said that he wishes to be much more careful in allocating foreign currencies at [the heavily discounted] government rates, signalling a potential forthcoming shortage of hard currency," Motamedi said. Also responding to the trading pressure was the Imami gold sovereign, the most traded sovereign on the Iranian market. It reached an historic high of IRR46,900,000 on September 3. Panicked trading Bouts of panicked trading in hard currency and gold sovereigns have been seen since the US announced it was unilaterally walking out of the nuclear deal in early May that shielded Iran from heavy sanctions in return for restrictions on its nuclear development programme. Instead Washington opted to reintroduce severe sanctions in an attempt at

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The tribulations of the rial have also forced up the prices of gold sovereigns and old coinage.

strangling Iran’s economy to the point where Tehran decides it has no choice but to come the table and agree to a reshaping of the country’s approach to Middle East affairs and tighter restrictions on its nuclear and ballistic missile research and development activities. Financial difficulties at Iranian banks are now pretty much in plain sight, pockets of roaring inflation have beset consumer goods sectors and, unimpressed by the government’s response to the spreading economic malaise, Iran’s parliament has sacked the minister of economic affairs and finance as well

“Bouts of panicked trading in hard currency and gold sovereigns have been seen since the US announced it was unilaterally walking out of the nuclear deal” as the minister of labour. In July, President Hassan Rouhani replaced the head of the central bank. Some foreign economists have calculated that inflation in Iran should by now be realistically measured at somewhere over 200%. The rial is set to come under even more pressure as November 5, the date on which the US has demanded oil importers stop accepting consignments of Iranian crude, nears.

Companies & Markets I 19

bne October 2018

bne:Deal

CEFC to sell Czech assets to its owner CITIC at just over half of book value IntelliNews Pro

he troubled Czech-based division of Chinese conglomerate China Energy Finance Corporation (CEFC) will sell its assets in Czechia to Chinese state conglomerate CITIC under the market value, daily South China Morning Post said. The value of the deal is expected to be around €850mn, which is 44% under the €1.5bn book value of CEFC’s assets in May, South China Morning Post said, citing two sources familiar with the deal. The Czech watchdog officially approved a takeover of CEFC by CITIC in June after CEFC had problems paying back creditors. “The whole transaction is being finalised. The deal concerns only assets directly owned by CEFC Europe,” a source familiar with the deal told the Czech News Agency. This would exclude shares in Travel Service, an airline that owns the flag carrier Czech Airlines, brewery group Lobkowicz and broadcaster and publisher Empresa Media. If the deal gets through, CEFC’s assets will be under the control of the Chinese Ministry of Finance. According to Cyrrus analyst Lukas Kovanda, CITIC will either sell most of the assets

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Avast to enter London bourse in bid to raise up to $1bn Avast to enter London bourse in bid to raise up to $1bn St Petersburg's start-up scene flourishes on high talent and low costs Romania entrepreneur aims to put home-grown UAV defence technology industry on the map FinTech Russia's mobile major MTS increases stake in Ozon to 16.7%

Avast to enter London bourse in bid to raise up to $1bn Jaroslav Hroch in Prague Avast, which owns the popular consumer antivirus company AVG, will apply to list its shares on the London Stock Exchange in the hope of raising $200mn (CZK4.1bn) in primary proceeds from an IPO, the Czech-founded company announced on April 12. See page 2

St Petersburg's start-up scene flourishes on high talent and low costs Filip Brokes in St Petersburg

In 2015, CEFC bought a series of medium-sized Czech and Slovak assets in something of a frenzy, though it largely slipped back behind the scenes after that. CEFC Europe assets in Czechia comprise first division football club Slavia Prague, hotels and office buildings. The properties include hotels Mandarin Oriental Prague in the heart of Prague and Le Palais Art Hotel Prague in the upmarket Vinohrady quarter. Moreover, the company owns the former Zivnobanka building in the centre of Prague and the Czech capital’s Florentinum office complex along with a newly reconstructed building close by. Its investment drive was promoted by Czech President Milos Zeman and his inner circle, who were keen to deal with Beijing. Now, the implosion of CEFC Europe has raised concerns over how stable and beneficial Chinese investments are for Czechia and whether they are merely a political tool to increase Chinese influence in Czechia.

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because it is too diversified, or keep them and continue with deals in Czechia but change the strategy totally.

See page 3

1 2 3

Blockchain Romanian startups at the heart of blockchain energy trading rally

Central Europe Russian-Lithuanian startup Gosu.ai raises $1.9mn from Russian and French investors

Eurasia Iran hit by cyber attack that left US flag on screens 14 Iranian government set to block hugely popular Telegram messaging app 15 Iran's black market phone disconnection drive pushes up legal mobile imports 15 Eastern Europe Internet catches up with TV on Russian ad market Sales of connected appliances jump in Russia Russia's HeadHunter Group seeks to raise $250mn with NASDAQ IPO Russia ranks second in the world for digital piracy Russian messaging service Telegram raised another $850mn with ICO

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Southeast Europe Russia's HeadHunter Group seeks to raise $250mn with NASDAQ IPO

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I Companies & Markets

bne October 2018

bne:Funds

Fondul Proprietatea in talks with “numerous” potential buyers for Hidroelectrica stake IntelliNews Pro

omanian property restitution fund Fondul Proprietatea (FP) is in talks with “numerous interested parties” on a potential sale of its stake in the country’s main hydropower producer Hidroelectrica, Johan Meyer, FP portfolio manager and CEO of Franklin Templeton Investments Ltd, told a press conference in Bucharest on September 4. FP, which is a minority stakeholder with 20% in majority state-owned Hidroelectrica, indicated last year that it was considering selling its stake in the hydropower producer as plans for an IPO have repeatedly stalled. Speaking at the press conference, Meyer declined to name any of the potential buyers, saying the process was ongoing. He described Hidroelectrica – which makes up 36% of the value of FP’s portfolio – as the "crown jewel for Fondul and for Romania”, stressing that “As renewable energy is highly topical, a company like this with 100% hydro generation is an incredibly valuable asset. We want to make sure this is reflected in any discussions.”

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However, he also expressed cautious optimism that there may be a chance for the IPO to go ahead now that the mandate of the consortium initially appointed for handle the listing has come to an end. “We have noticed that the consortium’s mandate for the IPO of Hidroelectrica was not extended during the latest shareholders meeting on 6 August 2018. This situation generates an opportunity for the government to select a new investment consortium that can reignite the IPO process and take it forward,” Meyer told journalists. “The government has now a chance for a fresh new start for the most awaited listing on the local capital market.” Hidroelectrica reported RON962mn (slightly over €200mn) profit in January-June this year, 34% up y/y, driven by the 20% y/y advance of electricity generation to 9.17TWh. The record performances of the company in H1 were mostly due to the favourable natural circumstances, the company’s manager Bogdan Badea commented when the results were announced.

bne October 2018

Companies & Markets I 21

bne:Tech

Russian internet major Mail.ru in talks with Alibaba and RDIF IntelliNews Pro

ussian internet major Mail.ru, its shareholder mobile operator MegaFon, and the sovereign Russian Direct Investment Fund (RDIF) are entering into a strategic partnership with Chinese e-commerce major Alibaba, MegaFon said in a press release on September 11.

including food delivery and classifieds, as well as lending significant credibility to the strategy put in place by company management. In the past few quarters Mail.ru margins were pressured by large investments in multiple segments, from e-sports, to food delivery, to the taxi market, and others.

The goal of the partnership is to "integrate Russia’s key consumer internet and e-commerce platforms and launch a leading social commerce joint venture in Russia and the CIS."

"The possible cooperation between RDIF, Alibaba, and Mail will not come as a surprise to the market with respective discussions ongoing for more than six months, and according to several sources, Alibaba and RDIF considering possible investments into Russian e-commerce and logistics," Aton Equity commented on September 11.

Russia's digital economy is booming, with the largest players developing ambitious marketplace and eco-systems projects, such as the joint venture between Sberbank and Yandex. Market, and another possible alliance of Chinese Alibaba with Russia's second-largest bank VTB Bank. VTB is affiliated with Russian Post that has just announced a number of measures to boost delivery infrastructure across 34 Russian cities and specifically with China. According to other reports from the Eastern Economic Forum where the partnership was sealed, Mail.Ru Group may contribute its fast-growing market place Pandao to the JV. This confirms previous reports that RDIF and Alibaba are potential investors into Mail.ru Group's online commerce business. Alibaba Group will reportedly have 48% stake in the joint venture, MegaFon 24%, Mail.ru Group 15%, RFDI 13%. Alibaba will merge its existing Russian business AliExpress and Tmall with the new venture, and contribute investment. RFDI will invest up to $300mn. MegaFon will swap 10% stake in Mail.ru for the 24% stake in the joint venture. Renaissance Capital commented that a joint venture with Alibaba shows that "Mail.ru has been able to use its strategic and financial fire-power to disrupt the market over a fairly short period and end up with a stake in Russia’s leading e-commerce platform." The analysts at RenCap believe the relationship with Alibaba could put Mail.ru in a strong position in other businesses,

Aton sees cross-border marketplace Pandao as "an alluring target" as it posted positive 2Q18 operating results with around 20mn total downloads and over 6mn monthly active users (MAU). In May Mail.ru reshuffled its shareholder structure, now being co-owned by joint venture MF Technologies formed by MegaFon, Russia's third largest bank Gazprombank, and USM Holdings of billionaire and tech investor Alisher Usmanov.

“The goal of the partnership is to integrate Russia’s key consumer internet and e-commerce platforms and launch a leading social commerce joint venture in Russia and the CIS” www.bne.eu

I Companies & Markets

bne October 2018

“Iran’s Amazon” lays off staff as Trump sanctions hit business bne IntelliNews

igikala, “Iran’s Amazon” in the making, is feeling the effects of the downturn that has struck the Iranian economy. The company is laying off 175 of its 2,400-plus-strong staff, ITIRAN reported on September 4. Co-founded and run by the Mohammadi twin brothers, Digikala has doubled down on e-commerce in the country of 80mn in recent years, expanding its range of offers beyond its original digital line-up of goods to clothing, homewares and medical and bathroom devices. It is by far Iran’s largest online retailer of electronic and clothing goods. Hamid and Said Mohammadi – believed by analysts to have personal fortunes of more than $100mn each – said in a letter addressed to staff that the firm faced havoc generated by the devaluation of the Iranian rial, the falling purchasing power of Iranians, supply chain problems, the drying up of imports, instability in planning and US sanctions. It is the reintroduction of heavy US sanctions that is widely viewed as the cause of the economic tailspin Iran finds itself in. The “belt needs to be tightened for the winter”, the letter to employees of Digikala – which means “digital products” in Farsi – said. The announcement comes following Digikala’s buyout of RocoLand, Iran’s largest online-only supermarket.

Import ban on “luxuries” With the US offering very few concessions in its targeting of Iran with heavy sanctions and the Iranian government placing an import ban on more than 1,300 goods deemed to be “luxury” in order to curb hard currency outflows, several imports popular with middle-class Iranians are now absent from the shelves. Iranian wags have noted that while Donald Trump may not be having much success in targeting America’s Amazon – seemingly a pet hate of the US president’s which this week exceeded a trillion dollars in value according to its growing stock market valuation – he has done a fair bit of damage already to Iran’s. The Mohammadi twins are photography buffs who launched their business after saving a thousand dollars to buy an SLR camera, but finding it difficult to smoothly obtain one in Iran. “We spent all our money on that camera,” Hamid Mohammadi told Forbes in January 2015. “That’s how the idea came about. We wanted a website with lots of information and reviews for consumer electronics, and also a good shopping experience, beyond information and reviews. The idea was a combination of CNET and Amazon. We thought it was necessary to have both business models in Digikala because both were a very real problem for Iranians.”

Russian Post plans to boost e-commerce infrastructure IntelliNews Pro

ussian Post (Pochta Rossii) will open 38 logistics centres in autumn worth RUB24bn ($1.7bn), the head of the company Nikolay Podguzov announced at the Eastern Economic Forum, as cited by Vedomosti daily on September 11.

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The infrastructure will be introduced in 34 Russian cities, which could enable deliveries of orders within two days for 80% of Russian population, boosting the e-commerce potential in the country. Russian Post also plans to open express delivery channels from China, speeding up deliveries from

Companies & Markets I 23

bne October 2018

two-three weeks to one week, and in 18-24 months to up to three days.

Russia's second-largest bank VTB Bank. All these projects are increasingly relying on Russian Post for their logistical infrastructure.

Russian Post’s transformation from loss-making Soviet-era dinosaur to profitable company in the last few years has been remarkable. In 2012 the company was asking the state for large subsidies to build new logistic centres, but in the last few years the company has benefited from the boom in e-commerce, which is growing ten-times faster than the real economy and can now fund its modernisation from its own funds.

Notably, VTB Bank is affiliated with the Russian Post through joint ownership of the Postal Bank. Analysts previously suggested that the joint venture with VTB could help the Chinese company to potentially dodge the levy on cross-border e-commerce prepared by Russian government and allow Alibaba to benefit from Post of Russia infrastructure.

In 2017 the turnover of Russia's e-commerce reached RUB1.04 trillion ($18bn), growing by 13% year-on-year, according to the data by the Association of Internet Trade Companies (AKIT). The market is expected to reach RUB1.25 trillion in 2018.

Russian online entrepreneurs Oskar Hartmann and Igor Rybakov invest $750,000 in Australian car sharing platform bne IntelliNews

arix VC, a fund launched by Moscow-based businessmen Oskar Hartmann and Igor Rybakov, has invested $750,000 in Australian car sharing platform Car Next Door, East-West Digital News reports. The news was reported in August by online publication VC.ru based on exchanges with fund representatives. Car Next Door defines itself as an online marketplace that provides a booking system and “a range of in-vehicle technologies to make car-sharing safe.” Since its inception in 2012, the startup has raised more than $11mn in total from various investors including Hyundai, MacquarieGroup, CallText Australia, and Hollard Insurance Company, according to Crunchbase.

www.carnextdoor.com.au

asserted himself as one of Russia’s best tech entrepreneurs since he launched flash sales site KupiVIP some 10 years ago. Hartmann and Rybakov have teamed up in several projects, including the non-profit World Entrepreneurship Leadership Foundation. Their joint VC fund Larix operates internationally from its offices in Moscow and Berlin, investing from $100,000 to $10mn at any stage in virtually any tech segment. Larix claims to ”close deals quickly” in an “entrepreneur-friendly” way, acquiring minority stakes of “not more than 35%.” It has invested in around 10 startups so far, according to CrunchBase, including an initial investment in Car Next Door earlier this year.

Russian billionaire Igor Rybakov is the founder of TechnoNICOL, a Russian giant in the field of construction materials. Oskar Hartmann, a German citizen born in Kazakhstan, has

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I Cover story

bne October 2018

Russian blue chips battle it out for the "most valuable company" title

Ben Aris in Berlin

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n 2007 Alexei Miller, CEO of Gazprom, Russia's state-owned gas monopoly, boasted that in ten years' time the value of his company would rise from the then $360bn valuation to become the world’s most expensive company, and the first with a market capitalisation that topped $1 trillion. Gazprom was on a roll at the time. With the world's largest gas reserves, and unrivalled access to European markets, the "state within the state" had been supplying up to 80% of Europe's gas in the 90s and following the removal of the so-called "ring fence" in 2006 – special regulations that limited foreigners from owning its locally traded shares – the stock soared. And then it all went wrong. Russia’s petro-driven growth model became exhausted in 2013. Growth stalled. The oil price crashed the next year. And the US sanctions regime was rolled out that had Gazprom squarely in its crosshairs. Today Gazprom is still one of Russia’s most valuable companies, but it was only worth $56bn at the time of writing. America’s Apple Inc became the world’s first trillion-dollar company in August. Russia's leading stocks have always been volatile. The standing joke amongst traders in Moscow is the Russian market is either the best performing in the world – or the worst. But the swings have become violent as sentiment is battered by the geopolitical showdown between east and west since the Kremlin annexed the Crimea in 2014. Currently Russian stocks are amongst the cheapest in the emerging market universe.

“Investor dislike for EM equities hit a new multi-year low this week,” Vyacheslav Smolyaninov, the chief strategist at BCS Global Markets told bne IntelliNews. “The sell-off may be overdone, if the world economy emerges from the trade wars unscathed, which is our base case.” But while the leading indices have remained range bound for most of the last four years, some of Russia's individual stocks have done extremely well as the economy begins to recover and oil prices rose to unexpectedly high levels this

year. A battle has broken out amongst the five biggest names in the Russian market for the title of Russia's most valuable company, as the leader changes on almost a weekly basis as the companies reel from the latest news. The rise in oil prices has been one constant in this story and underpins the rise in most of the top company share prices, which account for about two-thirds of the stock market’s capitalisation. But the most valuable company in Russia for most of the last year has been stateowned retail banking giant Sberbank. Sberbank is the standout favourite for portfolio investors. The bank dwarfs everything else in the sector and is a proxy for the entire economy. But despite its massive size – Sberbank holds about half of all the retail deposits in the country – the bank’s CEO German Gref is also widely considered to be one of the most progressive managers in Russia. The cheap deposit base is of course a boon, but the bank consistently has a return on equity in the mid 20s, ahead of its pure

the impending US sanctions will hurt the banking business more than the oil business. At the start of September the bank’s market cap had almost halved to $57.4bn. While Sberbank was coming off the boil, oil prices have been heating up this year. From lows in the $40s in 2014 the cost of a barrel has recovered this year to average over $65 in the first quarter and rose again in the second to over $75 a barrel. That catapulted state-owned oil major Rosneft to the top of the tree as Russia’s most valuable company. The company earned more money in the first quarter of this year than in all of 2017 and its market cap jumped to a high of $71bn at the start of August from $55bn a year earlier. The company is determined to increase its market cap even further and launched an investor relations charm offensive earlier this year, promising to pay down debt and increase dividends. However, after the company launched

“Sberbank is the standout favourite for portfolio investors. The bank dwarfs everything else in the sector” banking rivals, and in the crisis years of 2014-2016 was earning the entire banking sector’s profits on its own. Sberbank earned RUB117bn ($1.8bn) in 2015, but Gref says he hopes to reach RUB1 trillion of profits by 2020. “Last year Sberbank must have been the most profitable investment in Russia,” Gref said earlier this year as he became the last manager of a state-owned business with a trillion-something goal. Sberbank’s stock has become something of a bellwether for the Russian equity market. The bank’s market cap is the only one of the five biggest stocks to have broken north of $100bn in recent years, making it worth nearly $50bn more than Rosneft in March, but it lost the lead again to Rosneft in August, as

its first ever share buy back two months ago it seems that CEO Igor Sechin balked at actually parting with any cash. He complained the company was undervalued; Rosneft’s market cap has fallen again on the back of fears of new sanctions being imposed by the US government this autumn to $58.6bn as of the last week of September, whereas Sechin says the company should be worth at least $130bn. Rosneft and Sechin are in the frontline of the sanctions assault as they are very close to President Vladimir Putin, making the company’s stock volatile. Gazprom has also suffered and while the company’s shares outperformed in September, closing almost all the gap with its sister company Rosneft, most of that growth has been driven by the

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gas giant’s oil subsidiary Gazprom Neft (based on Sibneft oil assets it bought from oligarch Roman Abramovich several years ago). The oil subsidiary is now worth as much as the gas producing parts of Gazprom, say analysts.

least $15bn in the last 12 months. The high point came at the end of August when Lukoil’s market cap topped RUB4 trillion ($59.1bn) on MOEX, making the company even more valuable than Sberbank.

Russia’s economy has long been dominated by state-owned companies but two privately owned companies have entered the fray in the last year: independent gas producer Novatek and privately owned Lukoil. With market caps of $38.4bn and $48bn respectively, both companies are in spitting distance of becoming the most valuable company in Russia.

Lukoil is highly regarded by investors and its market cap has risen faster and further than those of its state-owned peers, adding $15bn in a year to reach a peak of $50bn in August this year. The company almost surpassed Rosneft despite having less reserves and lower production levels. But investors like its management and the company’s good corporate governance. Also in August Lukoil launched a $3bn share buyback programme, and unlike Sechin, the owners didn't quibble about the price of its stock.

Lukoil has had a stellar year and its market cap has risen faster and further than those of its state-owned peers, adding at

Russia's King of the Castle. Russian stocks market capitalisation $mn.

Source: MOEX, BCS GM

Novatek has also won itself a strong reputation for good management. It is the least valuable of the big five, but its market cap has been creeping up relentlessly and reached $48bn in September, putting itself within a stone’s throw of second place in the ranking. In the middle of November Novatek even briefly overtook Gazprom in terms of value at RUB3.49 trillion, just ahead of Gazprom's RUB3.48 trillion. Nominally privately owned, Novatek is clearly very close to the Kremlin and has been put in charge of developing Russia’s liquid natural gas (LNG) capacity, for which it received a special export licence – making it the only energy company in Russia other than Gazprom that can export gas. So far the company has done a sterling job, having delivered on the construction of a $10bn LNG processing plant on Russia’s western seaboard earlier this year on time and under budget. To an extent it has taken over Gazprom’s mantle as “tool of foreign policy,” as the Kremlin works to use energy as a diplomatic monkey wrench. Work on a second LNG plant was immediately launched and Novatek is already set to become a major player in the global LNG business that will extend Russia’s European pipeline politics to the rest of the world.

Capital flight figures to make your eyes water MOSCOW BLOG:

Ben Aris in Berlin

ince 1994, when the Central Bank of Russia (CBR) started publishing capital flight data, a total of $581bn has left Russia as private sector outflows.

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But what really makes the eyes water is that in the last decade and half there were only two years, 2006 and 2007, when there was a net inflow of capital. Those years were the height of

Russia’s boom when Russian businessmen finally became optimistic about the future of the country: the $131bn that came home in those two years was only slightly less than the

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total of all the money that had left in the preceding decade, $156bn. If the US crash had not started a global panic, if Russia had had a few more years of this level of inflows, then it is likely the changes would have gathered enough momentum to transform the country and bring it up to par with the developed world. But the US did crash. Russia didn't have very long in the sun. In 2008 a massive $133bn left – the same amount as all the money that had arrived in the previous golden years – and not only did the optimism evaporate, but one can imagine that those Russian investors foolhardy enough to bring their cash home have been scarred for life. In the following years between 2009 and the second quarter of this year, a total of $539bn has left the country, which includes an eye watering spike that was even bigger than the 2008 crash: $152bn fled in 2014 following Russia’s annexation of the Crimea that year. Capital flight has petered off in the last two years, but some $20bn is still leaving every year. The challenge that President Vladimir Putin faces now is to recreate the atmosphere of optimism that prevailed from 2006-2007 so that his own businessmen want to bring their money home from its offshore havens and invest in Russia. The Kremlin is now trying the stick and carrot approach with Putin’s deoffshorisation laws versus things like a tax amnesty for returning flight capital. He has not convinced anyone yet. Russia doesn't look stable enough. US sanctions are not going away. And the economy is effectively stagnating. As I have argued elsewhere, Russia is suffering from a crisis of confidence. Some of the ideas the Kremlin has been throwing around recently – such as presidential advisor Andrei Belousov’s “super tax” suggestion – suggest the Kremlin will simply force the oligarchs to invest. In a meeting with Belousov in August the collected Russian captains of industry agreed to invest $4.5bn, but that is a drop in the bucket compared to the $131bn that came by itself in the boom years.

Cover story

And that was ten years ago; if there was a another boom presumably the amount of returning flight capital could be multiple times higher. Bloomberg ran a story recently entitled “US Sanctions Driving Russian billionaires Into Putin’s Arms” claiming that Russia’s top businessmen were moving their money back to the motherland. But the piece turned out to be controversial. Tim Ash, senior sovereign strategist at BlueBay Asset Management, said in an email to clients: “The data

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clean up of the banking sector continues one of the main goals has been to close down the “money chute” used by businessmen to whisk their earnings offshore undetected by the authorities. According to the central bank the amount of this money laundering has been massively reduced in the last few years. It is very hard to get a clear picture of what is happening within the details of the capital flows. Certainly Putin’s deoffshorisation campaign has

“In the last decade and half there were only two years, 2006 and 2007, when there was a net inflow of capital” just does not show this. Look at private sector capital flow data from the CBR. It’s shows the opposite, private sector flight capital increasing, if anything.” CBR data shows that private capital outflows from Russia have fallen over the last year from $17.4bn for 1H18 versus $14.4bn in the same period one year earlier. This is according to data captured by the CBR on the balance of payments method of calculation and clearly the CBR does not see all the money flowing in and out of Russia. However, as its

encouraged some oligarchs to bring their money home. In an interview with bne IntelliNews two years ago when the campaign was at its height Dmitri Mints, the CEO of the O1 real estate company, said he had seen hundreds of millions of offshore oligarch money flow into high-end Moscow real estate in the previous year. But at the same time there are oligarchs that are more scared of a Kremlin appropriation than US sanctions and are sending money out in large amounts.

Russia Private sector net capital inflows (BoP $bn)

Source: CBR

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Russian stocks markets xxxx

nvesting into Russian stocks has been a wild ride for those investors brave enough to take the risk. Since the inception of the dollar denominated Russia Trading System (RTS) in 1994 with an arbitrary index value of 100 the market has been through at least five super cycles. In 1997 it hit a peak value of 571.7 on October 6 before crashing to 38 in the wake of the 1998 financial crisis. It then rose again to an all time peak of 2487.92 on May 19 2008, before crashing back to a low of 549.43 in 2009. Investing Russia has never been a buy and hold place as timing the investments to match the pole-to-pole swings are everything. After the 2008 crisis the index slowly recovered to around 1500 but following the sell off caused by the Kremlinâ&#x20AC;&#x2122;s decision to annex the Crimea in 2014 it has been trapped in a range that oscillates between 1000 and 1300. However, under the seeming placid surface of the capital market pond there are strong currents flowing in the markets. Russia was still an economic basket case in 1998 and it had only really enjoyed about two years of rapid growth when the 2008 crisis hit. Today the country has been transformed and has become a

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more or less normal country that is still dealing with some big problems. Many of the companies on the market have been about and investing into their sectors for over two decades. Incomes have risen from next to nothing to on

a par with those at the bottom end of the European Union on purchase price parity (PPP) terms. The rising incomes has driven consumer stories which has been a favourite investment meme, but also the real estate sector, especially after mortgages appeared in about 2001

â&#x20AC;&#x153;Many of the companies on the market have been about and investing into their sectors for over two decadesâ&#x20AC;? Russian stock indicies: RTS vs MICEX

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and took off in 2008. Today mortgages account for two thirds of all apartment purchases and it has only been in the last year or two that interest rates have fallen close to “normal” levels so this story is still only at its start. The country’s titanic reserves of mineral wealth and its enormous 147mn strong consumer market, by far the largest in Europe, form the bread that surrounds a grisly sausage meat of unreformed Soviet-era companies in what has been called the “Soviet sandwich.” The best of Russia’s modern companies are already world class and there are growth nodes in every sector, as all the factories and

services that were missing from communist Russia are being created. Although the index is flat at a company level the stocks of the best of these companies have been soaring. In 2016 the entire market rerated as the post-Crimea sell off was over done and investors decided that Russian stocks were simply too cheap. Russia’s RTS returned 52% that year making it the top performing equity market in the world. Since then investors would have to pick individual names to get similar returns but the best names have done even better. The X5 Retail Group saw its share price double in 2017 as caught up with and overtook

its rival Magnit to become Russia’s largest supermarket chain with more than $10bn a year in revenue. The metal producers. including the iconic Magnitogorsk Iron and Steel Works (MMK), had a similar ballistic ride as commodity prices rose in 2017, whereas the baton has passed to the oil companies this year on the back of the inexorable rise in oil prices. And the state-owned retail banking behemoth Sberbank remains foreign investors outstanding favourite as it is a proxy for the whole economy. In this special focus we survey some of the most obvious stock market stories of the last few years.

of the market thanks to the concentration of investment in a few names. These problems also cut off Russia’s smaller companies from international investment capital which can tap what allocations are made by international investors to ETF holdings. Sberbank’s larger pool of names in its ETF is designed to avoid some of these problems and give investors a broader exposure to the Russian story.

Sberbank launches Russia's first ETF Ben Aris in Berlin

he first Exchange Traded Fund (ETF) based on Russian financial law has been listed on Moscow Exchange (Moex) by Sberbank Asset Management and Sberbank CIB, Vedomosti daily reported on September 17 citing Moex representatives. Russian law now defines the Bourse Participative Investment Fund (BPIF), which is traded similarly to usual ETFs, is highly liquid, and closely follows the dynamics of the cost of the fund's assets.

ETFs have sprung to prominence in the last decade and now make up the bulk of the equity investment into Russia’s shares. They are cheap and easy to use and as they are traded on foreign exchanges they avoid the country and currency risks some other more direct methods of investing into Russian stocks have. The disadvantage is relatively few names are big enough or have sufficiently large free floats to be eligible for inclusion in an ETF, which also adds to the volatility

Currently Sberbank’s BPIF includes shares of 42 issuers traded on the Moscow Exchange and tracks gross yield of the exchange indexes (counting pre-tax dividends of the issuers). The fund will reinvest the dividends received from the shares in its portfolio. That will significantly increase the return of the BPIFs as Russia is currently paying the highest dividends in the world – twice the average return from the MSCI EM index average, the industry benchmark. The leader Surgutneftegaz is currently paying a whopping 19% dividend yield, according to analysts, and there are about two dozen stocks that pay twice the MSCI EM average. Prior to the Sberbank BPIF only 14 Ireland-registered ETFs of companies FinEx and ITI Funds were traded on Moex, and none of those were based on Moex indexes. Commenting on the high volatility on the Russian market currently, the head of Sberbank Asset Management Evgency Zaytsev

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told Vedomosti that "this situation is seen as a point for growth." Market maker of the BPIF Sberbank CIB will be able to buy back the stake in the fund at any point from the investors, boosting its liquidity. The BPIF plans to raise over RUB3bn ($44mn) in one year and plans to launch another three BPIFs, anchored in state securities, S&P500, and Russian Eurobonds, respectively.

he established a Russian branch of Templeton Asset Management to build the mutual fund business. However, most of these funds were wiped out in the 1998 crisis where the ruble lost three quarters of its value in a month and the RTS index fell from over 500 to a low of 38. Since then various banks have tried to reestablish a mutual fund business. Previously the oldest funds were estab-

“The BPIF plans to raise over RUB3bn ($44mn) in one year and plans to launch another three BP” The head of FinEx Vladimir Kreyndel argued to Vedomosti that Russian BPIFs are not exactly ETFs as they still lack key ETF features, such as independent trustees and custodians. The launch of the BPIF is the latest attempt to create a fund industry in Russia that has always been lacking, and Russian individual investors have never had much luck with funds. The BPIF builds on the closed-end investment funds, known as PIFs in Russia, that were introduced by Boris Yeltsin in 1997, about six months before the 1998 financial meltdown. Yeltsin’s PIFs caused a great deal of excitement and brought investment stars like Mark Mobius to Russia, where

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While no one expects the BPIFs to mushroom, especially amongst battle-scarred retail investors, the timing of the new instrument is good as the tide for investment funds is rising in Russia.

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The government has been trying to encourage this trend and has introduced “investment accounts” that carry significant tax breaks for small investors prepared to tie up their money in securities. At the same time the Ministry of Finance has been experimenting with the so-called People’s Bond, a fixed income instrument that specifically targets retail investors. Sberbank again (together with VTB) issued the first People’s Bonds.

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But that is starting to change now. With inflation down to historic lows of circa 3% and interest rates on deposit accounts falling in line with the tumbling cost of capital, the average Russian is starting to look around for new investment opportunities that pay a bit more. The interest in funds has been increasing.

“Investment funds never collected much money, partly thanks to the constant shocks investors suffered from”

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bne:Tech May, 2018

lished by independent investment bank Troika Dialog that was later sold by its owner Rubin Vardanian to Sberbank and formed the core of the retail giant’s investment arm, Sberbank CIB, that is launching the BPIFs. However, these investment funds never collected much money, partly thanks to the constant shocks investors suffered from due to the volatility of the Russian securities markets and partly because retail investors have traditionally sought safer

returns from bank deposits and real estate investments.

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Russia’s share buybacks are en vogue

hat comes down, must go up. That’s how the owners of many of Russia’s biggest corporations are looking at their share price at the moment, many of whom have launched share buybacks in the last year to take advantage of the low price of their stock now. The attitude of Russian owners to their stock has changed dramatically in the last decade. In the 90s all shares meant was a way to capture the revenue streams of raw material producing cash cows. These days increasingly owners see their shares as a source of capital they can use to pay for acquisitions or turn into cash on the capital markets. This change is most visible in the extremely high dividends many companies pay, as a way of investing into their stock (and a new more equitable way of extracting cash from a company). However, buybacks serve the same purpose; owners use excess cash to buy up shares, support their share price and invest into the value of their stock. The most recent example was Russia's second-largest oil company and largest privately owned oil company Lukoil that started the first stage of its $3bn share buyback that was announced earlier this year on September 19 which will run through the end of 2022. At the first stage, the company will acquire at least $1bn worth of its shares by the end of 2019. And the company’s investor friendly attitude has already brought it benefits as despite having smaller reserves and lower oil production than its two bigger state-owned rivals – Gazprom Neft and Rosneft – Lukoil has been playing kiss chase with the title of “Russia’s most valuable company” in recent months briefly overtaking the other two to top the list. Russia’s biggest oil company also launched an IR charm offensive earlier

this year that included reducing its debt and its first ever $2bn share buyback. But Rosneft being Rosneft it has managed to stamp on a few toes in the process. The company launched the buyback in August that will last until December 2020, but then announced it would only buy shares at the prices prevailing in May, significantly lower than in August. Then in September the company started getting cold feet and the whole programme is in limbo now.

management team has been put in place, which has started the process of repairing the damage – including buying back some stock to support the share price. In July shareholders of Mobile TeleSystems (MTS) also approved a buyback of mobile major's shares worth RUB30bn ($0.5bn) over the next two years, which was met positively by the analysts. Here the motivation was slightly different as

“These days increasingly owners see their shares as a source of capital” Rosneft CEO Igor Sechin complains the value of the company, which is on the US sanctions list (as is Sechin personally), should be closer to $130bn instead of its current market capitalisation of $65bn. Also in September Russia’s leading supermarket chain Magnit launched a RUB16.5bn ($241mn) share buyback to try and apply some salve to its long standing and loyal shareholders that have been burned in this year’s drama surrounding the company. For many years Magnit was an investor’s darling on the basis of its spectacular growth and the no-nonsense management who had built a world class retailer. However, this summer Magnit’s founder and largest shareholder Sergey Galitsky sold 29% of his stake for RUB139bn ($2.4bn) to state-owned bank VTB on February 16. Minority shareholders were more than a little miffed as the size of the sale was just under the threshold that would have triggered an offer to minorities and the subsequent reports of board room battles over strategy all contributed to a tumble in the share price and a nasty tarnishing of the previously spotless reputation. In the last months a new highly respected

MTS is partly owned by AFK Sistema, which found itself in an epic corporate war with Rosneft. Rosneft accused Sistema of stripping its oil subsidiary Bashneft of cash before it was nationalised and sold to Rosneft. The stateowned juggernaut got a court of freeze all of Sistema’s shares in subsidiaries, including MTS, that were to be contributed to a huge compensation claim. Part of MTS share buyback is designed to insulate it from Sistema-related risks. Russia’s internet giant Yandex announced a $100mn share buyback in June that is part of a staff motivation options programme. This sort of scheme is still extremely novel in Russia as while the top management are regularly included in shareholder structure, the US model of giving even low level employees options in the company is still almost unheard of in Russia. But then Yandex is arguably Russia’s most progressive company and already equal to its western peers – Yandex is already the most valuable internet company in Europe and one of the few Russian stocks to have regained and seen its shares pass its pre-2014 crisis IPO price.

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investors owned a third (34%) of all the OFZs outstanding or some $30bn. But the mere threat of sanctions has panicked the market, which has been dumping OFZs. By July the share of foreign ownership was down to a quarter (27%) and will continue to fall. And the yield curve has risen dramatically, up 40-105bp (depending on maturity) in August alone, rising another 30-50bp in just the first week of September as tensions between Moscow and Washington rose further.

Russia bonds OFZ pain.

Russian OFZ treasury bond pain

The volatility on the market has become so bad that the Ministry of Finance cancelled its regular OFZ auction in the first week of September, and where it used to pay 7.1% on short term OFZs at the start of this year, investors are demanding 9% for the same bond now.

bne IntelliNews

he markets have been spooked by the threat of “crushing” new US sanctions on Russia this autumn that could include Russian debt. If the US goes through with a ban on owning or trading Russian debt the effects will be dramatic and widespread. It is not clear what debt the sanctions will target. Both Russia’s primary sovereign Eurobonds and its ruble denominated treasury domestic bonds, the so-called OFZs, are in the crosshairs. The ban on Russia’s circa $70bn worth of Eurobonds would be unpleasant but not that damaging. By international standards Russia has tiny external debt of some 15% of GDP and doesn't rely on external markets to fund the budget. There are some $7bn worth of Eurobond issues in the budget each year, but these bonds are more of a benchmarking exercise to determine a sovereign yield curve so Russia’s corporate bonds can be priced properly. Russia issues sovereign Eurobonds more as a public service than to raise cash. But sanctions on the OFZs would be a lot more damaging as these are the Ministry of Finance’s workhorse debt instrument and a key source of funding for the budget.

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President Vladimir Putin’s May Decrees have called for approximately RUB2 trillion of new spending on top of the circa RUB16 trillion of spending each year in the federal budget to “transform” Russia’s economy. In next year’s budget the Ministry of Finance has raised its issue target of OFZ issues by about half to RUB1.4 trillion each year for the next three years. And foreign investors, including Americans, make up a big part of the holders of OFZs; until April foreign OFZ curve dynamics

The outflow of money from the OFZ bond market is already hurting the currency, as investors convert their rubles to hard currencies on the way out of the door. The ruble broke through the psychologically important RUB70 to the dollar and RUB81 to the euro marks on September 10, dropping to its lowest level in two years. All in all the ruble has lost at least 17% to the US dollar since the start of this year and could lose more, despite the much higher than expected oil prices, which should push the value of the ruble up.

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The knock-on effect is that whereas the Central Bank of Russia (CBR) has been easing its monetary policy with a series of cuts in interest rates this year, it is likely to hike rates for the first time in a year at its next meeting on September

higher (from 9.7% in July to 9.9% in August for the one-year-ahead gauge) and there’s a multitude of other risks around. With that said, we feel the CBR will not haste to deliver such a decision as early as the September 14 MPC meeting,” Yuri

Tulinov and Phoenix Kalen, analysts with Societe General, said in a recent note.

Indeed the Kremlin is well aware of the problem as amongst the many demands made by Putin in his state of the nation speech in April is that Russia’s growth should be raised to well ahead of the global average by 2024. The May Decrees are supposed to provide the impetus, but with the OFZ sanctions it becomes unclear how the Ministry of Finance will be able to fund the dozen gargantuan national projects in the programme.

A rate hike and the end of the CBR’s easing cycle would be unwelcome news for the government that is working hard to boost growth. The Ministry of Economy recently downgraded its GDP growth forecast for this year for a second time to 1.8%, which is, for an emerging market, a stagnation level of growth. Russia’s economy has been recovering but with growth stuck at around 2% for the foreseeable future Russia will slowly fall behind the rest of the world, which is

Moreover the CBR’s attempt to support the ruble with a rate hike will be less effective than usual as none of the factors driving the ruble down – investors dumping OFZs on sanction fears, higher petrol prices following oil prices upwards, a weaker harvest, a recent 2% hike to VAT rates – are monetary factors and all of them are out of the central bank’s control so hiking interest rates won’t help solve any of these problems.

“Foreign investors, including Americans, make up a big part of the holders of OFZs” 14, to contain the fall of the ruble. The falling ruble also started to feed through into inflationary pressure, which ticked up in August to break above the 3% level for the first time in a year. Inflation was expected to rise towards the CBR target of 4% anyway, helped along by those higher oil prices, but it is rising a lot faster than it was supposed to now. “The ruble is plummeting by the staggering weekly pace of 3.4%, headline inflation is notably accelerating (from 2.5% y/y in July to 3.1% in August), people’s inflation expectations are starting to edge

growing faster, and the relative gains of the last decade will be lost.

Banking’s David and Goliath Ben Aris in Berlin

berbank is half of Russia’s banking sector by itself, while Tinkoff is a tiddler that is only 11 years old and started out offering a single product: credit cards. Between them this David and Goliath pair take up all the attention of portfolio investors into Russia’s financial sector. Sberbank is huge. It accounts for half of all the deposits in the country and the bulk of the banking sector’s profits. It has some 25,000 branches whereas the next biggest bank has 1,000 at most. During the worst of the “silent crisis” in 2015 the banking sector made a profit of RUB109bn, including Sberbank’s RUB119bn: in other words the rest of

the banking sector lost RUB10bn and all of the sector’s profits were made by Sberbank alone. With its massive market share that is based on serving the average Russian, the bank has become a proxy for the rise of the middle class and the Russian growth story. And despite being the Soviet brontosaurus of the banking world, Sberbank is surprisingly well run by former economy minister German Gref, the author of President Vladimir Putin’s liberal reform plan in 2002 that led directly to Russia’s boom at the start of the noughties.

Gref invested $1.2bn into a state-of-theart IT system that allows the head office to manage a branch network that stretches over eight time zones in real time, and has embraced fintech as the future of the bank. Out are the sober blue suits and in are the polo shirts and loafers, as Gref explores new and innovative ways to develop traditional banking services. He even dressed up in an exoskeleton that hindered his motion and wore opaque glasses before marching Robocop-like into a Sberbank branch to see how well the team could cope with serving someone with physical disabilities. All this, plus Sberbank’s almost guaranteed profits by dint of its copper-plated

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I Special focus

state backing, means the bank’s shares have become something of a “tourist stock” – if you are going to Russia and have to invest into something because Russia is in your index, then you buy Sberbank before you buy anything else. Sberbank reported a whopping 38% year-on-year increase in IFRS net profit in 2017 to RUB748.7bn ($13.3bn) and another RUB202bn in the second

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quarter of this year for a strong 23% return on equity. And Gref said earlier this year he wants to bring the bank’s profits up to RUB1 trillion a year soon. Dividend payments have been rising even faster than profits. The bank made a record-high dividend payment of RUB271bn ($4.4bn) for 2017, doubling the 2016 payout of RUB135bn in absolute terms. "I think

INTERVIEW:

Tinkoff Bank builds a virtual lifestyle bank Vadim Dumesh in Paris Tinkoff Bank is the new kid on Russia’s banking block. At only 11 years old it is a relatively late entry into the sector, but analysts have already made it one of their “high conviction” stock tips for this year. Russia’s only purely online bank, Tinkoff claims to be the biggest pure internet bank in the world. Hot for tech, investors ploughed into its London October IPO in 2013 when the bank raised $1.1bn, floating at $17.2 at the top of the range, valuing the bank at $3.2bn. It was the last IPO before Russia annexed the Crimea the following May and abruptly brought the party to an end. As the political crisis morphed into an economic “perfect storm”, the bank’s share price fell to close to $1. It's been four years since then but by last November the share price had recovered all the ground lost and was trading at more than $21 at the time of writing at the end of January – one of the few Russian stocks to have listed since the recession started that is trading ahead of its IPO price. Read the rest of this interview on bne here: www.intellinews.com/interview-tinkoff-bank-builds-a-virtual-lifestylebank-135974/?source=russia

[Sberbank shares] were one of the most profitable investments of last year," Gref boasted, as cited by Interfax. That’s a dividend yield of 36% for 2017, up from 25% paid in 2016. Analysts are speculating that Sberbank could start paying a 50% of profits dividend yield as soon as next season. Despite the more than doubling of the bank’s share price from a low of $4.17 in 2015 to $10.89 as of the end of August, analysts still have Sberbank marked as a buy and 102% upside potential on its target price of RUB360. But there is another name that has attracted investors’ attention in the banking sector: Tinkoff Bank is a minnow to the Sberbank whale. The bank was set up as Russia’s first pure online-only bank by serial entrepreneur Oleg Tinkoff, and it has flourished. The idea was that by eschewing the Central Bank of Russia (CBR) regulated bricks and mortar of a traditional bank the bank could significantly cut its costs and so undercut every bank on the high street. Starting out by just offering credit cards that carried lower rates than the rest, the bank has grown fast as Russia’s retail sector increasingly goes online. The bank IPO’d in 2013 raising $1.1bn at a start price of $17.2 per share, but it was caught up in the firestorm that followed the Kremlin’s annexation of the Crimea in 2014 when its stock fell to $1. Since then as frayed nerves repaired themselves investors have come back from looking at Russian banks as just “Russian” and are focused again on the “bank” bit. The share price is one of the very few that has made back all its losses from 2014 and reached an all time high of $21 in the summer. The appeal of Tinkoff is it is part Russian consumer bank and part tech play. Russians are embracing online banking and without infrastructure costs, Tinkoff is very profitable.

Maxim Evdokimov, VP, Chief Digital CX Officer, Tinkoff Bank

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Analysts also have Tinkoff marked up as a buy, although with a target price of $28 the potential return is a more modest 39% at the time of writing.

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Retail’s battle of the Titans: Magnit vs X5 Ben Aris in Berlin

rganised retail is one of the most sophisticated parts of the Russian economy. The Soviet-era open air markets and “Produkti” corner stores are largely things of the past and after a decade of growth, Russia’s leading supermarket chains have maxed out their store opening potential and are starting to run up against structural limits to their growth. Two giants of the business have emerged, Magnit and X5 Retail Group, and they are battling it out for the top slot. Retail has long been the dedicated Russian investors’ favourite sector as it is largely apolitical, home to few oligarchs and has prospered on the relentless rise of Russians’ average income. At one point about three years ago Magnit’s stock accounted for a third of the entire MSCI Russia overweight in investors’ portfolios by itself. Having eschewed the glitzy life in Moscow, its owner and founder Sergei Galitsky was the epitome of the serious businessman who built up a multibillion dollar retail chain by focusing on Russia’s far flung regions rather than the capital, allowing him to tap into the 143mn strong population. The company’s stock grew inexorably as not only was Magnit the biggest, it was also the best managed with the highest profit margins and juggernautlike growth. But the story fell to pieces last year when internal disputes over direction tore the team apart. The fall in incomes following the deep devaluation of the ruble in 2014 hurt incomes in the regions more than the cities that rival X5 had traditionally concentrated on. Galitsky sold 29% of his stake for RUB139bn ($2.4bn) to state-owned bank VTB on February 16, after X5

overtook Magnit to become Russia’s largest retail chain in terms of turnover. In 2017 X5’s stock doubled in value while that of Magnit stayed flat.

The other name in the sector to watch is Lenta, the third placed supermarket chain. While it is much smaller than the two titans, it is very profitable.

Now investors’ interest in Magnit has perked up again. Both firms have recently reshuffled management and Magnit has brought in some seasoned professionals from X5 to restart its strategy. X5 reported strong results in the second quarter, whereas Magnit is yet to see a pick up in its second quarter results, but analysts are increasingly keen on the company as a turnaround story and its appeal to portfolio investors is on the up again.

Lenta reported strong IFRS results for the second quarter of 2018, broadly in line with previous guidance, and has also maxed out on store openings. Gross margin expanded 20bp y/y on better purchasing terms and improved promotional activity, and its net margin remained flat due to lower interest expenses.

The game will get harder now as the competition is fierce. X5 has just launched its first “dark store” – a retail outlet that is dedicated to serving online orders and has no physical customers. The company is also in talks with Chi-

The stock of all these leading companies has fallen this summer on the back of the geopolitical brouhaha, presenting an entry point, argue Moscow-based analysts. X5’s stock is down 27% YTD after the company reported disappointing first quarter results and the departure of top

“The game will get harder now as the competition is fierce” nese online store JD.com to set up a joint venture in Russia. For Magnit’s part, it is eyeing a takeover of SIA Group, one of the largest pharmaceutical distributors in the country, from Marathon Group, as a way of diversifying its revenues. But recently appointed Magnit CEO Olga Naumova says she will boost Magnit’s market cap “several-fold” and she has built up a formidable reputation at X5 that, “suggests she has all the chances to succeed,” says Vyacheslav Smolyaninov, chief strategist and deputy head of research at BCS Global Markets.

managers, which came on top of the worsening sentiment towards the Russian food retail sector. Lenta’s stock fell 16% in August alone – more than the index – and is starting to look very cheap. Sberbank CIB has marked the name up to Buy as a result, with a 12-month target price of RUB6.00 and an estimated total return (ETR) of 41%, which is still less than the ETR of 60% for X5 but a lot more than the 10% return expected for Magnit’s local shares.

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Residential real estate recovering

ussia’s real estate market is recovering nicely and soaring mortgage lending is driving the sector forward. From nothing in 2003 when they first appeared, mortgages now account for about 60% of all residential sales, and as interest rates fall housing is becoming affordable for more and more people. Office and commercial were the focus of the boom years, but for investors the best game in town now is the big listed residential real estate developers of which there are several. President Vladimir Putin added impetus to the sector in the ambitious development plan he laid out in his state of the

dependent on the financial markets for the funds to finance their billion dollarplus projects. PIK is the biggest real estate developer in Russia and following a merger with Morton last year it has become the clear market leader. The company’s Ebitda almost quadrupled year-on-year to RUB10.5bn ($160mn), sales in the first half of this year were up 9% y/y to 843,000 sqm, and there was a 2.4x y/y surge in revenues with gross cash collections up 18% to RUB111.1bn ($1.6bn). Mortgages accounted for 65% of sales in the period. And the management are cutting minorities in after the company announced in July a generous increase

“Office and commercial were the focus of the boom years, but for investors the best game in town now is the big listed residential real estate developers” nation speech on March 1 that included almost doubling the amount of residential accommodation in Russia.

in dividend payout, hiking the share of net cashflow to be shared with investors from 30% to 59%.

With high volumes and low margins, Russia’s residential developers have to be well run and they are increasingly

The number two in the sector is the LSR Group that saw its cash flow rebound in the first half of 2018 and completions

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double y/y. Revenue was up by over a quarter (27%) in the reporting period to RUB52bn ($766mn) and sales in its home market of St Petersburg doubled in the first half of this year. Ebitda margin was flat y/y at 18% but net income almost doubled y/y to RUB 3.8bn in the same period. Etalon is the third big player in the game and also reported strong numbers in the second quarter, with sales surging 22% y/y and cash collection up 58% to RUB14.7bn, which is 106% of sales in the quarter – its best result in the last three years. However, like all Russian stocks, shares in the real estate companies have been hurt by the recent brouhaha: LSR’s share price is down 26% YTD and Etalon’s is down 7%. Moreover, a new law introduced over the summer bans pre-purchase deals that many of the operators used to finance construction. The change will winnow out the smaller players in the sector as companies will need to be big enough to raise serious financing from banks and investors going forward. The sector is expected to consolidate and the remaining companies will have to become more sophisticated when it comes to raising funds for their projects.

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MOSCOW

LONDON

CYPRUS

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MEPs applaud the report's author Judith Sargentini.

European Parliament condemns Hungary for violating EU values bne IntelliNews

ungarian Prime Minister Viktor Orban suffered a major blow at the European Parliament, which voted on September 12 to launch an Article 7 procedure against Hungary for undermining EU values. MEPs voted 448 in favour and 197 against, with 48 abstentions in Strasbourg on the report that required a two-thirds majority to pass. The report authored by Green MEP Judith Sargentini says there is a "clear risk" of a serious breach by Hungary of the values of the European Union and calls for the Article 7 procedure, which ultimately suspends a member state's voting rights, to be opened. This is the first time the EP has initiated such a procedure against a member state, an unprecedented move that will taint Orban's Fidesz party in Europe. The report notes concerns related to the functioning of the constitutional and electoral system; the independence of the

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judiciary and of other institutions and the rights of judges; corruption and conflicts of interest; privacy and data protection; freedom of expression; academic freedom; freedom of religion; freedom of

counted on. Of the 219 MEPs in the faction, 114 voted to back the document, which showed deep fractures within the conservative EPP, the biggest political group in the EU.

“Yesterday I didn't see any readiness from the Hungarian PM to make a move towards his EU partners and address our concerns” association; the right to equal treatment; the rights of persons belonging to minorities, including Roma and Jews, and protection against hateful statements against such minorities; the fundamental rights of migrants, asylum seekers and refugees; and economic and social rights. European People's Party divided Orban received a rebuke even from fellow members of the European People's Party (EPP), whose support he had

EPP faction leader, a contender for the post of European Commission president, Manfred Weber voted to trigger Article 7 against Hungary. “I have always been in favour of building bridges and I want to continue to do so but yesterday I didn't see any readiness from the Hungarian PM to make a move towards his EU partners and address our concerns,” he said on Twitter.

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The vote increases the pressure on leaders of the European People’s Party to suspend or expel Fidesz from their ranks. French President Emmanuel Macron called the censure of Hungary the first step to fight illiberalism. Macron has sought to take the lead in fighting nationalists including Orban and Italy’s Interior Minister Matteo Salvini, and he has called himself the “main opponent” of the two politicians. Macron said the vote presented a choice of “values” for the Old Continent’s future. However, Hungary has other supporters within the EU. Bringing the Article 7 procedure to the final stage would require the unanimous support of all other EU member states, which analysts say is unlikely. Poland has already indicated it would veto sanctions against Hungary. The European Commission initiated similar proceedings against Warsaw in December and three months later the Hungarian parliament adopted a resolution supporting Warsaw in its fight against the bloc, saying the commission does not have “the right to meddle” in the domestic affairs of member states and that it was “unjustified” in initiating Article 7 proceedings.

Poland’s efforts to improve air quality to take up to 100 years to pay off Wojciech Kosc in Warsaw Poland is too slow in improving air quality and if efforts continue at their current slow pace, improvement will come in decades at best, with some areas standing to benefit a century from now, a report by the state’s audit body NIK said on September 11. Poland’s air is among the most polluted in the European Union. The main source of pollution is heating in the cold season, as people often use low quality coal or litter for heating. Poverty plays a role in that to an extent, but poor awareness of the environmental effects of such practices is also to blame. Car traffic is another cause of smog, with only some Polish cities taking steps to limit entry of vehicles downtown and revamp infrastructure to encourage use of public transit. The government has pledged to step up the fight against air pollution after smog became a topic of national debate a couple of years ago. The administration announced a PLN100bn (€23.2bn) programme to clean up air earlier this year but efforts have been slow and compromised by the coal lobby, NIK said. “The energy ministry’s proposal regarding quality standards for solid fuels secures to a much greater extent the interests of the coal lobby, than striving to protect Poles and the environment from the negative effects of air pollution,” NIK said in the report. NIK titled the report sarcastically “Take care of your health – do not breathe”. Dirty air has been estimated to cause as many 44,000 premature deaths in Poland, according to the European Environment Agency.

Hungarian FM defiant Minister of Foreign Affairs and Trade Peter Szijjarto said the approval of the report was "petty revenge by pro-migration politicians". Szijjarto slammed the debate and the vote as a “show trial”, arguing that Sargentini had compiled it without even arranging a delegation visit to Hungary. He contended that the vote was "fraudulent" and insisted that under European agreements abstentions should have been counted as votes against adopting the report. (Even if those votes had been counted, the report received support from 64% of MEPs.) He added that the Hungarian government would study legal remedy options.

Warsaw shrouded in smog: NIK titled its report “Take care of your health – do not breathe”.

When asked if Fidesz would stay in the

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EPP, he said it has become clear that the EPP is seriously divided on the issue of migration. “We’re fighting to make our position the majority,” he said, adding that Fidesz wanted to steer the EPP back onto the Christian democratic path he said would preserve Europe’s identity.

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Opposition parties hailed the EP's decision as a win for democracy that rejected the Hungarian government's illiberal policies. The message to government is clear: undermining and violating basic rights and values cannot go unpunished in Europe, Socialist MEP Istvan Ujhelyi said.

Losing voting rights in the European Council would ultimately hurt Hungary, rather than the government, but if the Article 7 procedure is launched it would be “Viktor Orbán’s responsibility alone”, Green opposition party LMP said.

and a pipeline from gas-rich Norway that Nord Stream will undermine. Ukraine opposes Nord Stream 2 as the extra capacity means Russia can effectively cut the Ukrainian transit route through the Soviet-era Druzhba (Friendship) pipeline completely and Kyiv will lose some $3bn a year of income as a result – something the cash-strapped government can ill afford.

Busting Nord Stream 2 myths Ben Aris in Berlin

he proposed expansion of the capacity of the Nord Stream gas pipeline in Europe’s north, running from Russia’s Yamal gas fields to the German coast, has split Europe down the middle. Its detractors claim it will make Europe more dependent on Russian gas and give the Kremlin a bigger club with which to bully the rest of Europe. Its supporters say it will diversify routes into Europe, improve energy security and most importantly provide the EU with cheaper gas. Pipelines are always very political, and the politics surrounding Nord Stream 2 are especially fraught. One of its most vocal critics is the US that is threatening to impose sanctions to scupper the project. However, the US has an obvious ulterior motive: it is keen to sell more liquid natural gas (LNG) to Europe, after it became a net producer of gas and has invested billions into LNG ports.

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From a simple economics point of view piped gas still trumps LNG as it remains between 15% and 50% cheaper, according to various estimates (which are also the subject of vigorous debate). And as the pipes are immovable, piped gas is more secure than LNG, as while Russia can turn the gas off, it shoots itself in the foot if it does so as it has to forego the revenue if it delivers no gas. Governments don't go to the enormous expense of building gas pipelines they don't intend to use. But putting gas on ships will radically change the nature of the business, as gas will become a commodity traded like oil, and ships, unlike pipelines, can be redirected to whichever market is paying the most for gas at the moment. Poland opposes Nord Stream 2 as it has its own aspirations for an LNG terminal

Russian President Vladimir Putin said openly at Gazprom’s tenth anniversary party that Gazprom was a “tool of foreign policy,” although its role has diminished since then as gas prices fall and Europe diversifies away from Russian gas. Aware of the politics, German Chancellor Angela Merkel insisted that despite Germany’s support for the new pipeline, cutting Ukraine off completely was not an option and Putin promised her that some gas would continue to go through the Druzhba pipeline. But Ukraine remains an unreliable transit route, which is part of the reason Germany supports Nord Stream 2. Russia has cut Ukraine off several times, but always because Kyiv failed to pay its energy bill. In 2006 Russia shut off gas supplies to Ukraine, and hence the rest of Europe because, “It was a force majeure situation. There was a contract and they didn't fulfil it. It's perfectly normal that if a customer doesn't pay for their goods then supply cuts them off,” Russia’s then first deputy prime minister Igor Shuvalov told bne IntelliNews in an interview at the time. While Berlin wants to see Ukraine supported by its Russian gas transit fees for political reasons, it is just as interested in not being cut off from Russian gas again when Moscow and Kyiv are rowing; Russia supplies about 60% of Germany’s

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gas and going without is not an option for Merkel. And the new route runs directly from Russia to Germany, so Germany’s gas will be cheaper. Another objection is that Nord Stream 2 will increase Europe’s dependence on Russian gas, implying that Russia will send even more gas than now. Having more pipeline routes (Gazprom is also building the Turk Stream pipeline in southern Europe that will eventually form a trident of pipelines from Rus-

sign individual deals with individual countries. About three years ago Gazprom was forced to renegotiate its gas deals with most of its customers, reducing prices as a result of these reforms. Ukraine’s national gas company Naftogaz just celebrated 1,000 days without importing any Russian gas, receiving it instead from reversed pipeflows from neighbours Slovakia and Poland. However, this is only possible thanks to the EU deregulation as neither of

“Pipelines are always very political, and the politics surrounding Nord Stream 2 are especially fraught” sia) means supplies to Europe are more diversified, not less, and the demand for Russian gas in Europe is set to rise rapidly. Gazprom’s market power in Europe has already been significantly weakened by the EU’s reform of energy regulations, which has limited Gazprom’s ability to

these countries are gas producers and ultimately source most of their gas from Russia. Ukraine is still using the same Russian gas as before, just now it arrives by a more roundabout route – and at a premium. Rather than becoming more reliant on Russian gas, Europe is a lot less

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dependent. Over the last three decades Russia’s share of gas supplies to Europe has steadily fallen from 75% in the 1990s to 37% in 2017 and continues to fall, despite the fact that Gazprom exported record amounts of gas to Europe this year. "In 2017 Gazprom shipped a record high volume to non-FSU countries (Europe and Turkey) of 194.4bn cubic metres, after 179.3 bcm was exported in 2016," Aton reported on May 4. In January-June, Gazprom’s exports of gas to the EU and Turkey increased 5.7% y/y to 101.2 bn cubic meters (cm). In 2018 exports might reach a record 205bn cm. The rising volume of gas exports has to be set against Europe’s soaring demand for energy, which has risen from about 100 marine gas oil equivalent (Mfoe) to 400 Mfoe over the last three decades, according to the European Council on Foreign Relations. The advent of US LNG and the proliferation of renewable energy alternatives in Europe like wind power will only erode Russian gas’s importance to Europe as an energy source further, but the volume of physical gas Gazprom sends to Europe will continue to increase with demand.

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Swedish H&M entered the Ukrainian market in August 2018, opening its first store in Kyiv. (Source: H&M)

Fast fashion’s race to the frontiers Clare Nuttall in Bucharest

n Bucharest’s changing skyline, a colossal building on central Unirii Square has been a constant presence for the last 42 years. Opened by the Romanian dictator Nicolae Ceausescu in September 1976, the Unirea department store was the flagship universal shop in the communist republic which at that time was booming on the back of investments in heavy industry financed by foreign loans. Old photographs of the shopping centre show a strip-lit interior bursting with consumer goods, women browsing closely packed rows of fur coats, shelves packed with souvenirs, and lines of briefcases laid out on the floor. It was spread over seven floors, from the 1,000-square metre food hall in the basement to a confectioner’s on the top floor with views across the city. Both were lavishly stocked at the launch, a few years before a debt crisis forced Bucharest to adopt harsh austerity poli-

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cies resulting in desperate shortages of food and consumer goods. Today the building still stands but its exterior is hardly recognisable being covered as it is with giant hoardings that proclaim “Zara”, “Bershka”, “Stradivarius” and other brands from the Spanish Inditex group stable. They fill the department store that is now a rather old fashioned mall, alongside Sweden’s H&M and Turkey’s Koton and LC Waikiki. All of these are “fast fashion” retailers, a term coined to describe chains such as Forever 21, H&M, Primark, Topshop and Zara, whose fashions progress from design to manufacturing to the shop floor at lightning speed, compressing processes that once took months into a few short weeks. Their low prices and constantly changing stock caused an explosion in the amount of garments purchased in the West European and

North American markets – the number doubled between 2000 and 2014, when it passed the €100bn mark. This sent profits soaring as the increased volume of sales more than offset downward pressure on prices, and turned the owners of fast fashion retailers into multibillionaires. Inditex founder Amancio Ortega is currently the world’s sixth richest man with a $64.3bn fortune. Several of the leading fast fashion brands have been present in Central and Eastern Europe since the early 2000s. They are now “part of the contemporary consumer culture” says Olga Gurova, senior fellow at the University of Helsinki and author of Fashion and the Consumer Revolution in Contemporary Russia, although their main markets remain the more affluent countries of Western Europe and North America. But with a business model based on people buying ever more clothes – and fast fashion retailers are adept at persuad-

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ing them to do so – the pace of growth achieved after the revolutionary business model was first launched cannot continue indefinitely without further geographical expansion.

almost half of Inditex’s stores (49%) are now in emerging markets – there are dozens in Latin America, East Asia and the Middle East – while 30% of H&M’s stores are now in developing economies.

“West European markets becoming quite saturated, with the largest fast fashion retailers … showing slow growth or even decline. Naturally these companies are looking to expand to emerging economies in Eastern Europe, Asia or Latin America where their presence is smaller and they can expand and show faster growth rates,” Euromonitor International’s research manager for beauty and personal care, Mantas Kaluina, told bne IntelliNews.

The number of stores opened in various East European countries by both Inditex group and H&M broadly corresponds to the GDP figures of those countries, indicating both income and population size are important when making investment decisions. This has resulted in large numbers of stores in the most populous countries in the region, namely Poland, Romania and Russia. Inditex has only a small presence in the tiny Balkan markets and has eschewed Central Asia except for oil-rich Kazakhstan. H&M is even more concentrated in the northwestern part of emerging Europe.

Consultancy McKinsey calls 2017 the end of an era, after which “the West will no longer be the global stronghold for fashion sales”. From now on, it anticipates, more than half of apparel and footwear sales will take place outside Europe and North America, as the spending power of the growing middle classes in emerging markets increases. And there is a lot of room for growth: “The average developing-country resident purchases a fraction of the clothing that his or her developedworld counterpart buys each year. Overall clothing sales could rise significantly if developing-country consumers choose to buy more clothing as their purchasing power increases,” McKinsey said in a recent report. Fast fashion to the frontiers Over the past 15 years, Western fast fashion retailers have moved eastwards, from the EU members of Central Europe southeastwards into the Balkans, and eastwards into Russia and beyond. Looking at the number of Inditex and H&M group (including other brands such as Cos and H&M Home as well as the flagship H&M) stores shows a dramatic shift over the past decade. The two groups’ 2007 annual reports showed their stores highly concentrated in Western Europe and developed markets like the US, while they had ventured into a handful of East European markets. Aside from that, their presence in emerging economies was minimal. Ten years later, figures from their 2017 annual reports show

Central Europe has been enjoying a consumption-led boom for the past few years that is only just beginning to tail off. While incomes in Central, Eastern and Southeast Europe still lag those in most West European countries, they are steadily converging. Fast fashion is not

Inditex doesn’t release sales figures, but H&M’s 2017 annual report shows that while overall sales (in SEK terms) fell by 4% y/y in Q4 2017, with some exceptions (notably China) sales in emerging markets increased. Strong sales growth was reported in Russia (20%), Poland (14%) the Czech Republic and Serbia (11% each). The increase in the number of stores in the region was only partly responsible, as other markets such as China, the UK and the US saw a larger number of store openings but a decline in sales. Italy’s Teddy Group, whose largest chain is Terranova, has been the boldest of the Western players in venturing into the heart of Eurasia, with stores as far afield as Bishkek, Ulanbataar and Vladivostok, as well as in Southeast European frontier markets like Kosovo and Moldova. Commenting on its expansion in 2017, the group stressed the importance of Eastern Europe and Central Asia. “Among the routes the new openings have been following in 2017, there are Northern Africa, the Middle East and Central Asia with countries such as Egypt, Saudi Arabia, Qatar, Kazakhstan, Kyrgyzstan … Eastern

“The West will no longer be the global stronghold for fashion sales” new to the region, but rising incomes have encouraged retailers to open ever more stores. Expansion depends on a “country’s stability, population size, its purchasing power and competition among other factors,” says Kaluina.

Europe has also been one of the top areas involved in the expansion of Teddy brands’ network: stores were opened in countries such as Russia, Belarus, Croatia, Serbia, Romania, Poland, the Czech Republic and Slovakia.”

Queues at the opening of H&M's first store in Ukraine in August 2018. (Source: H&M)

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Comparison of GDP and number of H&M and Inditex stores, 2017 Inditex

openings reads like a roll call of frontier destinations, including Kazakhstani oil towns and cities in Bosnia, Kosovo and Ukraine, alongside destinations in the Middle East and Africa. Nor has it shied away from politically sensitive locations: one recent opening was in Simferopol in Crimea, which was illegally annexed by Russia four years ago.

H&M

Number of stores

600

450

300

150

400000

Source: H&M and Inditex 2017 annual reports.

800000

Asked for an update, a spokesperson for the group told bne IntelliNews that Teddy has opened 12 new shops in Eastern Europe so far this year, and 12 more are expected to be opened before the year is out. “Shops have been and will be opened mostly in Russia but also Slovakia, Poland and Estonia are involved,” the spokesperson said, which “will account for more than 20% of the total of Teddy brands’ new openings of the year”. This is a significant share of international openings, taking into account that around 50% of new openings will be in the group’s home market Italy. Most of the new openings are Terranova stores, but Teddy also plans to open some new Calliope shops, dubbed the group’s “glamour light” brand. Expanding to the south and east, these retailers face direct competition from Turkish fast fashion retailers like Koton and LC Waikiki, who were early movers into many of the Emerging Europe markets, especially those in Turkey’s near neighbourhood or those with historical or cultural links to Turkey. According to Euromonitor’s Kaluina, while global retailers like Zara and H&M are expanding around the world, “Turkish chains’ expansion is focused mainly just to Europe and Asia which means they can expand faster”. Commenting on the strategies of the Turkish chains, Kaluina adds: “Expansion to established Western and some Eastern European markets is more difficult due to strong competition and way higher costs than in most of Asia.

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1200000

1600000

GDP ($1,000)

That is also one of the reasons why they expand more quickly to emerging countries. Also being early in new markets before H&M and Inditex puts them in a better competitive position now and in the future. Additionally Turkish chains geographically are closer to Central Asia, the Caucasus and accumulated knowhow working in this region.”

The 30-year revolution The arrival of the fast fashion chains in the 2000s was just one part of three decades of upheaval in the retail sectors of the former communist space, which started back in the 80s with the loosening of trade restrictions in some countries. Retail in Eastern Europe and Eurasia has gone through an era of intense change since the tightly controlled systems selling goods produced locally and in other socialist states. Immediately after the fall of communism, there was an explosion of imports of cheap clothes from China and Turkey,

“Despite more rapid growth in emerging markets most sales revenue and profit are still generated by developed Western markets” Another cultural factor is that LC Waikiki in particular has clothes that are modest enough for practising Muslims – for example using thicker fabrics and high necklines – while its bold colours and quirky styles appeal to secular shoppers, as outlined by Bloomberg’s Business of Fashion newswire. This gives the brand an extra edge in the majority Muslim countries of Eurasia and the Balkans. While Russia and Romania are prime markets for both Koton and LC Waikiki, unlike the Western chains they have a higher concentration of stores in Southeast Europe and Eurasia than in Central Europe. For example, Koton isn’t at all present in CEE’s largest market Poland, and LC Waikiki has only four stores there. On the other hand, Serbia is among the top five East European markets for both Turkish chains in terms of the number of stores opened. Indeed, LC Waikiki’s newsfeed of recent store

first brought across borders by smallscale “suitcase traders” and later channelled through the networks of huge wholesale bazaars that sprang up across the post-communist space. Before the arrival of mass market chains and modern malls, the new ultra-rich class would fly abroad to shop in Western capitals, but for most people putting together a fashionable and stylish wardrobe was a challenge. Romanian vlogger Georgiana Marin of Chicinquest recalls that as late as the 2000s, “I was buying clothes from the shops in my town: they weren’t selling fashion brands, but nevertheless good, quality clothes. I also went to the dressmaker because I couldn’t easily find what was in fashion back in the early 2000s.” Another Romanian blogger, Constantabased Maria of Urbn Style, remembers growing up in the Black Sea town of

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Mangalia where, she says, “we used to buy clothes from little shops or even bazaars.” Shopping used to be “like going on a treasure hunt … because good priced gems are hard to find.” Zara arrived in Bucharest in 2004, three years before Romania joined the EU and when foreign travel was still an unaffordable luxury for many Romanians. “I remember that the first thing I bought from Zara was in 2006 (it was a dress and I still have it) … I had no idea who Zara was – in the whole of Bucharest there was only one Zara shop open. I was very pleased with my purchase, so I became a regular client,” says Marin. Maria was also enthusiastic when she discovered Zara and Koton for the first time after moving to Bucharest. “The impact? I, for one, find it easier to go to the mall and shop from the big brands than go walkabout in the city from one little store to another in search of clothes to buy. Maybe because I think the clothes at the mall are of better quality and more modern.” In Kazakhstan, Zara’s arrival in 2009 was hotly anticipated by fashion conscious women in the country’s commercial capital Almaty, and reportedly set a record for the largest opening day turnover for any Zara store. Before it and other international chains arrived, there were few options between the cheap, low-quality goods in the bazaars and the tiny expensive boutiques often owned by wives and girlfriends of rich businessmen. Almaty residents would regularly drop in to see the constantly changing stock at Zara, and the Span-

ish chain became a staple of the Kazakh working woman’s wardrobe. Zara and Inditex’s other brands did so well in Kazakhstan that two years later Inditex bought out franchisee Fawaz Alhokair which had brought them to the Central Asian country. But in other countries, shoppers were slower to embrace fast fashion. “Serbs love fashion and big brands and that’s why Turkish and Chinese goods will never be out,” says bne IntelliNews’ correspondent in Belgrade. While she says brands like H&M and Zara are “pretty popular”, most people “would still rather go to Turkish and Chinese stores which sell fake Gucci, LV, DG, Michael Kors [and] adored and beloved Burberry.” What these goods have in common is that the “brand is very visible and that’s what Serbs adore!” She notes a change of mentality among the younger generation who would rather shop at, for example, H&M or LC Waikiki than for designer knockoffs. On the other hand, domestic brands haven’t been squeezed out by international fast fashion chains in Serbia yet, while a hangover from the Yugoslavian era is that Slovenian brands are seen as topquality and are still very popular. Wanting more An important part of the fast fashion business model in the West, even though retailers may not admit it, is that clothes are so cheap they are seen as literally disposable. There is constant churn as shoppers buy clothes then give or throw them away to make room for new purchases.

Top 5 CEE/Eurasia markets H&M

Koton

LC Waikiki

Terranova

Zara

Poland

Russia

Kazakhstan

Russia

Romania

Poland

Romania

Kazakhstan

Russia

Czech Republic

Romania

Czech Republic

Georgia

Ukraine

Slovakia

Croatia

Hungary

Serbia

Romania

Ukraine

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Further east, spending power just isn’t as high. The University of Helsinki’s Gurova says consumers have had time to embrace fast fashion retailers, “but they are not that cheap compared to in Western countries,” especially after a series of recessions and the recent slump in the value of the ruble. “It’s important to note that despite more rapid growth in emerging markets most sales revenue and profit are still generated by developed Western markets. In Western markets established fast fashion retailers like H&M or Inditex expand by opening stores of their new brands and investing heavily in online retailing,” says Kaluina. “[The] largest players, like H&M and Inditex adapt rapidly and successfully to new trends and market changes,” Kaluina adds. This has resulted, for example, in the expansion of H&M’s premium brand Cos, and Inditex’s Massimo Dutti. “They open larger, more prominent stores or new concept stores in prime locations in Western Europe. For consumers looking for premium goods they expand premium brands (Massimo Dutti by Inditex) or launch collections with famous designers (H&M). They tap into the athleisure trend by expanding lines of sports clothing which partially compete with products from sports companies like Nike and Adidas.” Follow the malls In addition to lower spending power, emerging markets also don’t necessarily have the infrastructure fast fashion chains require. One aspect is transport infrastructure. Zara, for example, is known for producing small batches of clothes that can then be restocked, tweaked or discontinued depending on demand, and new collections are delivered to all their stores around the world twice a week. The importance of speed raises questions about the logistics of serving large, sparsely populated countries like Kazakhstan or Russia, though to ensure speedy deliveries many fast fashion chains rely on air freight. A bigger problem than getting the clothes and accessories to stores is finding the stores in the first place. In Russia, Gurova

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there are geographical differences if you look at consumer culture, but one thing that changes the landscape a lot is online shopping,” says Gurova.

Zara and other fast fashion brands are clustered at Astana's landmark Khan Shatyr mall.

says, fast fashion retailers arrived when new forms of retail space appeared, after which they started to proliferate in the country. “The problem is that fast fashion retailers come to particular retail spaces, and in smaller cities there are not many of them that work in terms of standards for fast fashion retailers,” she adds. This means that shopping centres that meet the standards of international retailers all tend to be populated by the same group of brands: the Inditex group stores and H&M, alongside their Turkish competitors like Koton and LC Waikiki, plus local competitors such as Russia’s Concept Club, Gloria Jeans and Sela. As a result, it’s often not obvious to consumers where the clothes they are perusing are coming from, especially as some chains don’t advertise their locality, and the labels in the clothes indicate where they are made rather than designed, points out Gurova. From East to West As the fast fashion business model expands in emerging markets, local companies are also jumping on the fast fashion bandwagon. Probably the first high-profile fast fashion brand to venture from East to West was Kira Plastinia, the eponymous brand of the then 15-year-old daughter of one of Russia’s richest dairy producers. Kira Plastinia launched in the US back in 2008, but the venture flopped and was shut down within a year. A more convincing debut was made by Polish fast fashion chain Reserved, which opened last year at a 30,000-square foot space in London’s Oxford Street

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that was once British Home Stores' main department store. Reserved’s first UK store was opened by English supermodel Kate Moss in September 2018. Reserved is part of the LPP group that also includes the Cropp, House, MOHITO and SiNSAY brands, and has already expanded from Poland to 20 other countries including fellow East European markets, Germany and China. Built up from scratch over the past 25 years, the Gdansk-based group’s success has resulted in it being dubbed the ‘Polish Inditex’; in 2017 it sold more than 140mn garments and accessories, achieving revenues of almost €1.4bn. The expansion continues; its launch in Israel ended in a stampede as the first 200 shoppers who spent over €48 were offered free tickets to Europe. While Reserved made a loss in its first year in the UK, LPP CEO Marek Piechocki told The Telegraph it still plans to open many more stores in the country in the near future.

Thanks to the multichannel approach taken by H&M and Zara, for example, as well as online-only retailers like British Asos or Chinese AliExpress, “small cities and remote areas now have access to consumer goods if not from fast fashion retailers directly, from knockoffs or copies to some items that look like products of the fashion brands but are from somewhere else … online retail is growing immensely right now,” she continues. It’s similar in Romania where, Urbn Style’s Maria says “online revolutionised shopping … many young girls buy clothes from Asos, H&M, Zara or Romanian Fashion Days and such online stores.” "New players such as Boohoo.com, ASOS and Missguided are bringing products from design to sale in as little as a week or two–faster than traditional fast-fashion retailers, and even faster than Zara. Fast fashion is turning into ultrafast fashion,” said a 2017 report from Fung Global Retail Research. “Pure-play online fast-fashion retailers are able to continuously refresh and rotate a large part of their assortments to drive customer shopping frequency.”

Data from Euromonitor shows Reserved was the fifth largest apparel brand by sales value in Eastern Europe in 2017. Russian players Gloria Jeans, O’Stin and Kari, plus Polish accessories retailer CCC, also make the top 10.

Online is ideally suited to fast fashion retail because it speeds up the process by cutting out parts of the supply chain (i.e., displaying and selling clothes in shops) and makes it even quicker to respond to demand changes. While the expansion of fast fashion stores is continuing in Eastern Europe, in these countries too retailers are combining bricks and mortar with online shops as they feel the squeeze from their online rivals.

Probably the biggest competitors to the bricks-and-mortar clothing retailers, however, are their online rivals. In countries like Russia, where a large segment of the population live in far flung towns or rural areas, online is the only way to reach large numbers of potential customers, and even in the big cities malls are underperforming, mostly due to the switch to online purchasing. “Of course

Fast fashion has been turning the clothing retail markets of the CEE and Eurasian countries on their heads in recent years, but this is just one stage in the consumer revolution that has been ongoing for the last few decades. As consumers turn in growing numbers to online retail – lagging Western consumers by a few years – the rapid pace of change within the sector is set to continue.

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Turkey entering a steep recession Will Conroy in Prague

atest Turkish activity data suggest that the plunge in the lira since May and the associated sharp tightening of financial conditions has tipped Turkey’s economy into a steep recession, Capital Economics has concluded. In an August 29 note, Jason Tuvey, senior emerging markets economist at the macroeconomic research company, said: “Overall, there’s no getting away from the fact that the Turkish economy is experiencing a deep downturn. While

sinking 4.33% d/d to 6.7144 against the dollar by around 15:05 local time, taking its loss in the week to date to beyond 10%. The day’s low of 6.7999 was recorded shortly before. At the start of the year, the TRY stood at 3.79 to the USD, while in 2014 a dollar only bought two lira. The currency’s all-time low of 7.24 occurred in early August. The failure of the government bring forward any more measures to reassure investors it is credibly fighting to prevent the currency meltdown turning into

“The economy is likely to contract by 2-4% y/y in Q4 of this year” we expect GDP growth of 3.0% over this year as a whole, this will entirely reflect a strong start to the year. The economy is likely to contract by 2-4% y/y in Q4 of this year and in the first half of 2019.” By mid-afternoon, the Turkish lira (TRY) was recording its fourth straight day of losses since Turkey returned to work from its week-long public holiday,

up in inflation in recent months – the headline rate hit a 15-year high of 15.8% y/y in July. The latest signs show that higher inflation, coupled with a severe tightening of financial conditions, is filtering through into an abrupt slowdown in economic growth. “Indeed, the hard activity data paint a grim picture of the economy even before the lira’s leg down this month. In 3m/3m terms, which aligns with the quarteron-quarter figures from the national accounts, the latest industrial production data point to industry contracting by 0.7% q/q over Q2 as a whole, compared with growth of 1.8% q/q in Q1.

a debt and liquidity crisis appears to be a big factor in the latest phase of devaluation.

“Low-profile data and survey evidence suggest that things have only got worse in Q3. Figures released earlier today showed that imports contracted by 9.4% y/y in July, a sign that domestic demand has weakened sharply.”

Further looking at the hit to economic growth Turkey is taking, Tuvey said: “Things are only likely to get worse and our GDP growth forecasts lie well below the consensus… Earlier falls in the lira had resulted in a sharp pick-

Plumbing record lows Meanwhile, confidence in the construction, retail and services sector has plumbed record lows. Vehicle sales contracted by more than 30% y/y in June and July and Turkstat’s economic confi-

Industrial Production & Industry Value-Added

Confidence is at a record low in Turkey's economically vital construction sector (Pictured: Apartment buildings under construction near the southern Turkish city of Adana).

Sources: CEIC, Thomson Reuters, Capital Economics

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dence index recorded its weakest reading since 2009 in August. “On past form, it is consistent with the economy contracting by around 3% y/y,” Tuvey said. Capital’s forecasts for stagnation in 2019 and growth of 3.5% in 2020 lie towards the bottom of the consensus. In finding a way out of the woods, Turkey has so far rejected the options of capital controls and turning to the IMF – as Argentina did on August 29 – and there is no sign of a breakthrough in fixing the rift with the US over issues such as the detention of North Carolina evangelical pastor Andrew Brunson. There is also no indication of the President Recep Tayyip Erdogan ending his unconventional opposition to interest rate hikes

bne October 2018

which the market consensus says would make absolute sense at this point.

burden, some $146bn, is owed by the private sector and banks.

The vagueness of Ankara’s response and its failure to acknowledge the scale of the dilemma are frustrating market players. Erdogan, for instance, on August 30 was cited by state-run Anadolu Agency news service as stating that everyone will see that Turkey has options. Quite what they are, nobody is sure of.

“Financing needs over the next 12 months are large and access to markets has become problematic,” JPMorgan said.

JPMorgan, meanwhile, has confirmed data that some $179bn of Turkish external debt will mature in the year to July 2019, with many substantial payments falling due in the next two months. The total sum is equivalent to nearly a quarter of Turkey’s annual economic output. The largest share of the huge debt

The investment bank on August 23 cut its 2018 growth forecast for Turkey to 3.5% from 3.7% and slashed its expectation for 2019 to 1.1% from 2.8%. Finance minister Berat Albayrak, known as “the Groom” in Turkey given that he’s Erdogan’s son-in-law, on August 29 tried to play the calm overseer amid the worsening economic picture, saying that he did not see a big risk either to the economy or the financial system.

this time he gave a final ultimatum to Borissov to change the way the coalition is working and start making decisions more transparently. On August 31, Borissov demanded the resignation of Interior Minister Valentin Radev, Transport Minister Ivaylo Moskovski and Regional Development Minister Nikolay Nankov over their political responsibility for a bus crash that killed 17 people and left many more wounded six days earlier.

Valeri Simeonov gave a final ultimatum to PM Boyko Borissov to change the way the coalition is working and start making decisions more transparently.

Bulgaria’s ruling coalition shaken by resignations Denitsa Koseva in Sofia

ulgaria’s ruling coalition was seriously shaken and came close to collapse following the resignation of three ministers as Valeri Simeonov, one of the leaders of the junior coalition partner, strongly

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objected to Prime Minister Boyko Borissov’s decision to order the ministers to step down, and threatened to quit. This is not the first time Simeonov has seemed unhappy with his partners, but

There are suspicions that the deadly accident could have been caused by defects in the road construction; it was built by Trace Svoge, which is majorityowned by local construction company Trace Group Hold. All the ministers told to resign are from the quota of Borissov’s GERB party. In a statement over the weekend Simeonov said that his party, the far-right National Front for Salvation of Bulgaria (NFSB), strongly objects to Borissov’s move as it was not coordinated with his coalition partners. “The frenetic replacement of executives liquidates the statehood and hits badly the possibility for execution of the coalition programme,” Simeonov said in a statement.

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A day later, on September 3, he decided to give a last chance to the coalition following a meeting of the United Patriots, the far-right junior coalition partner, which, apart from NFSB, comprises the Bulgarian National Movement (VMRO) and Ataka. The United Patriots are very shaky and Simeonov has already said that most likely the rightwing union will not survive until the next election.

but an escape from responsibility. The problem in the state is not personal but systematic. Authoritarianism is not the future of Bulgaria,” Radev said in a statement on September 3.

“The resignations are no more a solution but an escape from responsibility” kova of GERB over various buildings at seaside resorts that Simeonov claims were built illegally. Relations have deteriorated to such an extent that Simeonov referred Angelkova to the prosecution over the issue, although prosecutors refused to investigate his fellow cabinet minister. Meanwhile, Bulgaria’s President Rumen Radev also criticised Borissov’s move, calling it a sign of weakness. “The resignations are no more a solution

Find more Southeast Europe content at

COUNTRY REPORTS

There has been speculation Bulgaria could have to hold early elections, but Radev added that a snap poll “will not give a new perspective”. To add to the already serious crisis, a poll carried out by Alpha Research showed that although nearly two-thirds of Bulgarians approve of the resignations, they have not increased the very low support for the government. While

As well as his criticisms of the resignations, Simeonov is also involved in a long-running and acrimonious dispute with Tourism Minister Nikolina Angel-

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19% of those who approve the resignations say the move lowered their support for the government and 12% say they would trust Borissov’s cabinet more after this move, the majority of people said this has not affected their perception in any way. The latter was seen as a signal that the replacement of ministers as a tool used by Borissov is not working in his favour anymore. More than 50% of respondents also demanded to see those responsible for the bus crash punished.

Check out IntelliNews Pro’s Country Reports covering the 30 countries in Central & Eastern Europe/Commonwealth of Independent States. A monthly round up of the most important economic, finance, business and political events, the reports are aimed at busy professional investors and companies that need to keep on top of the story. To subscribe to the reports delivered by email get in touch with our sales staff for a trial. T. +44 203 633 2008 E. sales@intellinews.com Or go to bne.eu/welcome to see samples of this and other products.

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Selected headlines from past month: · Crisis-stricken Turkey getting a grip on its financial turmoil? Markets are not yet buying it · US defence secretary accuses Russia of meddling in Macedonian referendum · Journalists investigating top-level corruption case arrested in Bulgaria · Big hike ends debate over Turkish central bank’s independence: finance minister

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A battle is raging for control of lucrative airports in Ukraine.

Dodgy dealings in the VIP terminal – The battle for Ukraine's airports Graham Stack in Kyiv

t was nearly a catastrophe. A Bravo Airways flight arriving back from Anatolia and packed with Ukrainian holidaymakers careered off the runway in Kyiv in the midst of a torrential rainstorm and slid to standstill on the skirt of the runway, propped up on one wing. With 4 tonnes of fuel on board, it was a miracle nothing worse happened as the drenched passengers slid down emergency slides to safety. The plane was badly damaged but the 169 passengers were okay. The investigation is continuing into the near tragedy at Kyiv‘s Sikorsky Airport – formerly known as Zhuliany - where the accident happened. Apart from the combination of heavy rain and squalls, aviation experts believe the blame is most likely to end up with the charter air company Bravo, which has a controversial reputation. Its predecessor, run by the same owners UMM, closed after it came under US sanctions for having too close links to Iran and was deemed to be guilty by the US authorities of busting

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sanctions. Bravo was built on the ruins of UMM and is still operating today. Things are not well with Ukraine’s aviation sector. Dodgy charter companies are the lesser problem for investors who are also looking into a chilling acid attack on a top manager at Ukraine’s largest airport, Kyiv Boryspol that shows that rule of law in Ukraine is still elusive. Denis Kostrzhevsky, chairman of the board at Sikorsky Airport, has a different culprit in his sights: Ukraine’s acclaimed

Unfortunately for NABU, the near tragedy on June 14 coincided with an armed NABU search of Kostrzhevsky’s offices at the airport. Kostrzhevsky is co-owner of Master Avia, the private firm operating the state-owned airport since 2010 under the terms of an investment agreement. This gave Kostrzhevsky plenty of ammunition to fire back at NABU. “The airport’s management, (…) hostage to the security forces, was not able to take measures that are appropriate to that weather condition.” As a result, “there was a threat

“There was a threat to the lives and health of the passengers” National Anti-Corruption Bureau (NABU), probably the most successful new institution to emerge from Ukraine’s 2014 Euromaidan revolution – a bright star in a dark sky.

to the lives and health of the passengers,” Master Avia said in a statement on July 24. NABU however disputes that the raid could have had any impact on the air-

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port’s safety operations: “We draw attention to the fact that the company’s statement was issued more than a month after the accident,” a NABU spokesperson said. The timing of Master Avia’s attack on NABU, NABU argues, shows that it is part of an anti-NABU campaign launched as its operations step on the toes of those in power. NABU is locked in conflict with an institution originally intended as its ally, the special anti-corruption prosecutor, which instead is regarded as protector of government corruption and actively blocking NABU investigations. On July 17, anti-NABU protestors burst into NABU premises. Among the protestors were men reportedly linked to the interior ministry, one of NABU’s targets. A similar story surrounds the saga of the International Monetary Fund (IMF) sponsored anti-corruption court (ACC) laws that President Petro Poroshenko was actively blocking until the IMF made it perfectly clear Kyiv would not receive another penny from the fund until the court was set up. The ACC law was passed shortly before parliament’s summer recess began. NABU was raiding the airport as a lot of money has gone missing. The ongoing probe of Kostrzhevsky’s Master Avia is based on the conclusions of the state audit chamber for the airport for 2017, which identified losses to the state of UAH 119mn ($4.7mn), according to investigation documents seen by bne IntelliNews. The back-story to Master Avia is that the company in the past was closely associated with a crony of disgraced former president Viktor Yanukovych, Yury Ivanyuschenko, about whom bne IntelliNews wrote in 2013. In 2010, at the dawn of the disastrous Yanukovych era, and with the open backing of Ivanyuschenko, Master Avia won an investment tender to upgrade Kyiv’s second airport, which awarded the lease of the airport for 49 years. Master Avia was founded only two days before bidding for the tender, but won it unchallenged. Blinded in Boryspil While NABU’s activities at Sikorsky

FBI tried to recruit sanctioned Russian oligarch Deripaska

bne IntelliNews The FBI and the US Justice Department officials tried to turn Russian and Kremlin insider Oleg Deripaska into an informant, as they sought information on Russian organized crime and, later, on possible Russian aid to President Donald Trump’s 2016 campaign, the New York Times reported on September 1. Deripaska and his businesses, along with another Russian tycoon Viktor Vekselberg, was singled out in the April 6 round of sanctions, the most damaging sanctions to date that severely impaired his energy and metals major En+, world's second largest aluminium producer Rusal, and other assets. Reportedly between 2014 and 2016 the US agents "signalled that they might provide help with his trouble in getting visas for the United States or even explore other steps to address his legal problems." Not only Deripaska, but about "half a dozen" of Russia's richest were approached by the FBI. In exchange, they hoped to obtain information on Russian organized crime and, later, on possible Russian aid to Trump’s 2016 campaign, unnamed current and former officials and associates of Deripaska told the NYT. In particular, the FBI agents reportedly pressed Deripaska on whether his former business partner and now convicted ex-chairman of Trump's campaign Paul Manafort was an intermediary between the campaign and the Kremlin. The NYT reminds that Deripaska took out newspaper ads in 2017 volunteering to testify in any congressional hearings examining his work with Manafort and sued the Associated Press for libel following the report that Manafort had secretly worked for him on a plan to “greatly benefit the Putin government” in the mid-2000s. Previous reports indicated that Deripaska’s En+ and Rusal could be getting closer to striking a deal with the US Treasury Department to suspend or even lift the sanctions in effect from April 2018. However, the most recent wave of sanction pressure could have this postponed. Unnamed sources told Reuters that Rusal's financials will face "further deterioration" should it fail to reach a deal with USTD by the end of August. In the meantime Rusal and its mother energy and metals holding En+ are reportedly preparing to re-register in Russian Special Administrative Districts (SARs), a domestic offshore zone the Russian government introduced in August on Russky and Oktyabrskiy islands. Registration in SARs could be a "plan B" in case negotiations with the Treasury will fail, a source close to Rusal management told Vedomosti daily on August 17, claiming that "residents of SAR could keep the beneficiaries undisclosed and change the whole structure of the holding." Government officials also suggested that Rusal could be supported by buying up excess aluminium for state commodity reserves.

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airport highlight the agency is making some, if not conclusive, progress in its anti-corruption battle, an unsolved act of violence at the presidential terminal of Kyiv’s Boryspol airport shows just how far there is left to travel in the war on graft.

The local Boryspil police department investigating the attack have also investigated the personal motive theory, but have failed to establish the identity of the attacker, according to documents seen by bne IntelliNews.

In February 2017, an unknown assailant attacked the deputy CEO of the presidential “Hall of Official Delegations,” (or ZOD in Ukrainian) the presidential VIP terminal that handles all official visitors to Ukraine. The attacker threw acid in the eyes of mother-of-two Natalia Zhulinska directly outside the airport, blinding her.

“There was nothing personal about it [the attack],” says Veniamin Tymoshenko, head of Ukraine’s independent trade union of aviation workers, who says that prior to the acid attack there had been a number of smaller provocations against Zhulinska, as well as attempts at defamation.

The attack has been hushed up, but court documents allow its reconstruction.

A source close to Zhulinska called the press secretary’s allegations “ridiculous”. Zhulinska herself is undergoing operations and is unavailable and unwilling to talk to reporters when contacted for comment. Her treatment is being funded by the presidential terminal itself.

The presidential administration had fired Zhulinska in 2014 to install a new management team at the airport to pursue restructuring. Zhulinska had fought back through the courts, using Ukraine’s strong protection for incumbent employees. She also organised a trade union cell at the state company to mobilise against a root and branch replacement of the work force. As a result, a court decision reinstated Zhulinska in her job, and the presidential administration was forced to scrap plans for restructuring. The main force behind the presidential administration’s new team at the “Hall” was controversial aviation businessman Roman Chelnokov. According to an OCCRP investigation, Chelnokov not only worked for Ukraine’s president, but also for allegedly corrupt President Teodor Obiang of Equatorial Guinea. There Chelnokov is a business associate of Vladimir Evdokimov, who served time in Ukraine for smuggling nuclear-capable missiles to Iran and China, and Vladimir Kokorev, who is on trial in Spain for money laundering for the Obiang family. But Ukraine’s presidential administration denies that the attack on Zhulinska has anything to do with her professional conflict. “Zhulinska was involved in a love triangle and the attack was revenge for cheating,” press secretary for the property department of the presidential administration Yaryna Yakovyshyn told bne IntelliNews.

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Zhulinska’s resistance to Chelnokov and backing from the workforce Chelnokov ultimately resulted in his being sidelined. “I have had no role in ZOD since April 2015 since Zhulinska organised a protest meeting as [President Petro] Poroshenko was flying out, and he gave an order to calm things down.” Chelnokov says he has nothing to do with the attack on Zhulinska and has not even been questioned by police about it. “I think they had some internal problems [leading to the attack]” he says. A metre of the Ukrainian border The Hall for Official Delegations is the official presidential airport terminal for all diplomatic delegations visiting Ukraine – thus Ukraine’s aviation gateway for the world’s heads of states. US vice president Joe Biden was received at the VIP terminal during his last visit to Ukraine in January 2017, for example. The Hall is also used more broadly by politicians to cover up for secret missions such as those of Paul Manafort, who shuttled on private jets between Ukraine and European capital on behalf of Yanukovych, as reported by bne IntelliNews, or by President Poroshenko’s own private VIP jet business that was used by cronies of ousted president Yanukovych to flee to Russia after the

crowd turned nasty at the end of the Euromaidan revolution in 2014. But it also has an important administrative and commercial role. The Hall has its own customs post and passport control, giving it influence over “1 metre of the Ukrainian border”, says Tymoshenko. The Hall also has on its books an entire swish new VIP terminal that is awaiting completion – and for which in 2018 the government has awarded $15mn to finish it off. The Hall will then become the main commercial VIP terminal at Ukraine’s main airport starting 2019 – a potential money earner. Following Chelnokov’s exit and Zhulinska’s return, Zhulinska had set her sights on the post of CEO of the Hall. Under new reform legislation introduced in 2015, the CEO would no longer be a presidential appointee, but would be decided by a competitive procedure administered by an independent appointments board. Zhulinska’s blinding in February 2017 effectively ensured that the president’s candidate got the nod in June 2017: a youngster connected to a controversial Kyiv construction baron. There is nothing to suggest that either of these is in any way connected to the attack on her. But neither is there confidence in the local Boryspil police department’s ability to identify the culprits. Former US vice president Joe Biden in his moving memoirs “Promise Me Dad” recalls flying into land at Boryspil in December 2015, when he gave what he describes as a historic speech to the Rada. On the approach to Boryspil, Biden mulled how to best rouse Ukraine’s elite to the need to create a “glorious new beginning for their country,” recognising that “time was running out on the Ukrainian government to get it right.” Nearly three years after Biden’s speech, a start has been made on Ukraine’s “glorious new beginning” but the battle over Kyiv’s airports and the Zhulinska case shows that Ukraine’s government still has not got it.

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Real wages in Ukraine grew 14.7% year-on-year in July to $347 per month and Ukraine’s 7M18 retail sales increased 6.0% y/y in real terms, slightly slowing from 6.2% growth in the first half of 2018, Ukraine’s State Statistics Service reported on August 20. And Decathlon is not the only foreign retailer moving in. The announcement followed the opening of a story in Kyiv by Swedish clothing brand H&M. The store is located in the 140,000 sq metres Lavina Mall. The company offers clothes for men, women, and children, as well as homeware under the H&M Home brand. France's Decathlon is the latest foreign retailer to enter Ukraine's increasingly appealing market.

France's Decathlon is the latest foreign retailer to enter Ukraine's increasingly appealing market Sergei Kuznetsov in Kyiv

rance's sporting goods retailer Decathlon is going to open its first store in Ukraine in the first quarter of 2019. With incomes starting to rise and the first green shoots of economic recovery taking hold in Ukraine, foreign owned retails are starting to move in to capture market share early ahead of the countries inevitable recovery and growth. As the most second most populous country in eastern Europe, on a par with Poland and far larger than any of the central European countries, opening stores in Ukraine should be a no-brainer for the multination retail chains. But war with Russia, political chaos of the Euromaidan revolution, endemic corruption and among the lowest income levels in Europe have all contributed to putting off any serious investment.

But that appears to be changing now. The French retail chain Decathlon will open its first store near the Pochayna subway station in Kyiv. Meanwhile, Decathlon placed on one of the head-

"We have been waiting for this day for a long time now, and the response from the Ukrainian public was well worth the wait," Emerging Europe news site quoted Dominique Fantaccino, country manager for H&M Ukraine, as saying. "I am so proud to welcome shoppers to our very first store in Ukraine and we are pleased to be able to offer our customers added value through fashion, quality and sustainability at the best price." Meanwhile, Swedish furniture giant IKEA has started recruiting staff for its first store in Ukraine. The company was interested in opening its iconic yellow and blue stores in Ukraine – the same colours as the Ukrainian flag - in 2005 and 2010, but plans unravelled because of the endemic corruption scared the retailer off. "It's no secret that for IKEA, which is currently planning to enter the Ukrainian market, one of the biggest issues is the

“Opening stores in Ukraine should be a no-brainer for the multination retail chains” hunter sites ads with vacancies for its first location in Ukraine. The company is going to elaborate on its plans in the Ukrainian market during a press conference to be held by late September, UNIAN news agency reported on September 5.

situation with corruption," Martin Hagström, Swedish ambassador to Ukraine, said in an interview in February. "I think that the fact that IKEA has decided to come to Ukraine is a sign that the company sees the changes [in the country] and is confident that it will be able to work here based on its principles."

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This statement followed an announcement in December by the Swedish furniture retailer that it intended to enter the Ukrainian market. According to IKEA, the decision to enter a new country is made by the company on the basis of "thorough market studies in which franchisees are carefully evaluated". IKEA South East Europe (SEE) will run the operations in Ukraine. IKEA SEE also handles the IKEA retail operations

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in Croatia, Serbia, Romania and Slovenia. They are currently in the process of identifying a suitable business model that would allow the large number of potential customers to shop in IKEA in Kyiv within one or two years, according to the company's media office. According to official data, Ukraine’s retail sales increased by 6% year-onyear in real terms in January-July in real terms. In July alone, real retail sales

picked up 3.9% month-on-month and 6.6% y/y (vs. a 0.8% m/m decrease and 6.3% y/y rise in June). Regionally, the highest January-July retail growth occurred in Ukrainecontrolled Luhansk (23.4% y/y), Zakarpattia (10.9% y/y) and Poltava (10.5% y/y) regions, while growth was slowest in Chernivtsi (0.6% y/y), Kharkiv (2.1% y/y) and Kirovohrad (2.9% y/y).

The long march of Belarusian retail Ben Aris in Moscow

othing epitomises the transformation Eastern Europe has been through over the last two and a half decades like the supermarkets full of fresh and enticing produce.

half of the year, which compares to 1.8% in Russia and 3.6% in Ukraine. The Belarusian economy is recovering well on the back of the ongoing recovery in neighbouring Russia, which still dominates the republic’s economic fortunes.

Long known as the “last dictatorship in Europe” thanks to a throwaway remark by former US secretary of state Condoleezza Rice, Belarus is starting to move out of that shadow and is maturing as it follows the other countries in the region and indeed outperforms most of them. Retail is fast becoming one of the most modern sectors of the economy.

The emergent middle class has a surprisingly balanced income distribution. President Alexansder Lukashenko has been pushing to increase the average salary to BYN1000 ($461) per month from around BYN800 now, but incomes have been rising steadily and Belarus’s current average income is on a par with Russia’s and ahead of that in Ukraine.

Belarus currently has the fastest GDP growth rates in Eastern Europe and that is creating a middle class. GDP grew by 4.4% year-on-year in January-July, following a 4.5% y/y growth in the first

According to the latest survey Belarusian individuals with a monthly income between BYN300.1 (around $150) and BYN500 ($240) accounted for 44.6% of the population in January-March, versus

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17% with monthly income of between BYN200.1 and BYN300, and the better off individuals with a monthly income of between BYN500.1 and BYN600 that made up 11.6% of the population in the first quarter of 2018. Those with over BYN600.1 made up another 22.6%. Rising incomes are feeding into retail trade, which increased by 10.1% y/y to BYN17.2bn ($8.6bn) in January-May, according to Belstat. And that is fuelling the development of organised retail in the republic. Eurotorg is Belarus’s leading supermarket chain and hoping to repeat the success of supermarket chains in neighbouring countries that have been portfolio investors’ darlings as they give direct exposure to the transformation of Eastern Europe’s economies.

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“We believe that the macroeconomic environment will support Eurotorg’s performance going forward. Consumers benefitted from growth in real wages and real disposable household income of 13.0% and 7.6%, respectively, in 1H 2018. Inflation has also declined to its lowest level in 10 years, hitting 4.1% in June 2018. We are hopeful that the Belarusian economy is on a path for growth, and that this will be reflected in the performance of our consumeroriented retail market,” Eurotorg CEO Andrei Zubkov told bne IntelliNews in an exclusive interview. Eurotorg, the largest food retailer in Belarus with around a 20% market share, just reported strong first half of 2018 results where net profit was up by 16.6% year-on-year to BYN68.7mn ($34.5mn) and a net profit margin ticking up slightly to 3.2%. In Russia the leading supermarket chains are world class companies and the business has just run up against structural constraints after two decades of expansion that mean they have switched from opening more stores to cementing their market share to improving profitability of existing stores and even paring back the numbers a little. In Belarus these sort of issues still lie far in the future. Belarus is under-penetrated by modern retail formats – BCG estimates the penetration of modern retail formats in Belarus is currently at 46%, similar to Poland eleven years ago. “This means there is tremendous potential for further growth with Eurotorg leading the way, as the largest food retailer in the country. Growing wages and increasing availability of consumer lending drive rapid growth in consumption generally and the grocery retail market in particular. Analysts estimate that wage and consumption growth will exceed 10% in 2018-2022, so we look to the future of Belarusian retail with excitement and optimism,” Zubkov told bne. Having a little spare money to spend is key and real disposable income (the money left after food and utility payments) in Belarus increased by 7.4% y/y in January-April, according to news

Eastern Europe

agency BELTA. Real disposable cash earnings are expected to grow by 3.4% y/y in 2019, according to Eurotorg. If Belarus follows the same path as its neighbours to the west and east then incomes will continue to rise for another decade and the population will spend a large part of it gathering the material comforts associated with capitalism. Food shopping is the first to benefit as punters trade up to the “little luxuries” before they spend more money on anything else. “Our retail concept is based on our unique understanding of customer needs across various market segments in urban and rural areas of Belarus. Our unparalleled market knowledge allows us to put forward the best customer proposition in Belarus across the board with price leadership and customer loyalty being the main differentiating factors,” Zubkov says. In terms of trends, while price is still extremely important, people are also looking for a broader range of products, and Eurotorg is already fleshing out its product mix to offer a bigger variety to punters. “Fresh produce is an important category – for example, we sell almost a quarter of all vegetables and nearly 40% of all fruit and nuts nationwide – and believe that this is becoming even more important,” Zubkov says. Another key driver has been Eurotorg’s extensive and steadily growing portfolio of private labels, which are

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translates into the robust financial and operational performance seen in our 1H18 results. Net retail sales saw double-digit growth of 11.5% in BYN y/y in 1H18, driven by both active expansion of the grocery retail chain and strong like-for-like sales performance – a growth of 5.9% y/y,” Zubkov adds. But it has not been plain sailing. Eurotorg has run up a considerable debt with the local banks that threatened to get too big. However, the company managed to refinance this with a $350mn five-year Eurobond in October 2017 – Belarus’s first corporate Eurobond issue – and has been working to reduce the debt since then. “The company reduced its net debt to $576mn as of June 30, 2018, and further improved its debt portfolio by increasing the share of local-currency funding (from 18% as of December 31, 2017 to 23% as of June 30, 2018) and reducing borrowing costs (the average interest rate decreased by 0.2 pp year-to-date),” says Zubkov. As the result the company’s net debt/ Ebitda LTM ratio has decreased to 3.0x as of June 30, 2018 (vs 3.2x as of December 31, 2017), helped by the solid growth of earnings and its strong free cash flow generation. “We continue to monitor funding opportunities in financial markets. In August, for example, we signed an €20mn loan agreement with the EBRD, which helped

“Eurotorg has run up a considerable debt with the local banks that threatened to get too big” higher-margin for the company but offer consumers high-quality produce at lower prices than branded goods. “We are also improving our own production, and offering more of our own products in smaller-format stores,” Zubkov says. “Our ability to anticipate and fulfil changing customer tastes due to our strategy and scale means we are rewarded with customer loyalty, which

further reduce our borrowing costs and extend our debt repayment schedule. In addition, the loan agreement again underscores Eurotorg’s strong standing as a high-quality borrower with a robust strategy, efficient business model and significant potential for future growth. The EBRD is a long-standing partner of Eurotorg, and we will also be working with them on a comprehensive plan to improve corporate governance,” says Zubkov.

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That is bad news for the rest of the region as Turkey’s currency woes are having a spill over effect on its neighbours. While the sell off in Turkey has been particularly sharp – the lira has lost some 40% of its value against the dollar YTD – economists believe that its economy is simply not big enough to cause “contagion” and start a broad sell off in emerging markets, similar to the 1997 Asian crisis that triggered crises in other markets – especially Russia, which collapsed a year later. “The sell-offs in Turkey and Argentina this time round have been particularly sharp. The falls in their currencies and rise in their bond yields (both dollar and local currency) have only been matched in scale by the declines in Russian asset prices during the ruble crisis of late 2014,” William Jackson, the chief emerging markets economist at Capital Economics said, adding that the size of the currency falls were in line with previous crises, and the rise in local currency bond yields was larger, but the widening of spreads to US T bills was smaller. “Overall, then, it has been a large sell-off, but perhaps not as dramatic as some headlines have suggested,” Jackson concluded.

The Turkish lira has lost some 40% of its value since the start of this year

Turkish, Russian devaluations are spilling over into Central Asia and the Caucasus bne IntelliNews

urrency traders had the weekend off, but on Monday August 27 they were thrown back into the trenches in Istanbul and were selling the lira again. Although nerves have calmed somewhat from the panic that gripped

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currency markets in recent weeks, because there is still no coherent rescue plan, emergency rate hike or convincing statements that Turkey’s central bank will now stick to a more orthodox monetary policy, FX traders are still jumpy.

However, the effect of Turkey’s problem on its neighbours is more noticeable simply because it is bigger than them and these countries are much more closely tied together by trade and investment bonds. Turkey has been playing an increasingly important role in the Caucasus in the last decade and that is costing its partners now. Hopes that following the collapse of the Soviet Union the west would come to the aid of the newly independent states with massive investments to bring their economies up to western standards have largely fallen on stony ground. But more recently regional blocks have formed where like-minded neighbours have been investing into each other and building up regional trade blocks. Turkey has become like Russia, what former EBRD chief economist Erik Berglof and the current holder of the same job Sergei Guriev dubbed an “investment node” for the rest of the Commonwealth

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of Independent States (CIS). Turkey is the financial and economic centre of a patch centring on southern Europe thanks to its proximity and the shared language and cultural heritage with the other countries. A “golden triangle” of co-investment and trade has appeared between Turkey,

through trade and banking, the fall of the ruble has more to do with the threat of “crushing” sanctions being imposed on Russia this autumn by the US. The ruble has sold off to levels not seen since 2016 and growth forecasts have already been cut. However, analysts say that the drop in the ruble will be limited

“Turkey’s currency woes are having a spill over effect on its neighbours” Georgia and Azerbaijan, manifest in the new Baku-Tbilisi-Kars (BTK) railway link opened last November. Turkey’s trade with the entire region has flourished, exposing the participating countries to Ankara’s current problems. Kyrgyz and Kazakh trade has been growing steadily, despite some hiccups caused by the creation of external tariff barriers under the Moscow-led Eurasia Economic Union (EEU). Ankara’s business ties with Tajikistan, which does not share a Turkic language like the other Central Asian states, have also developed and more recently Uzbekistan, after the death of former president Islam Karimov, has opened up this one-time hermit state. Turkish business has rushed in. Turkmenistan is insulated from the lira’s fall as it is maintaining its dollar peg policy for the currency for the meantime. And Armenia’s lack of meaningful contact with Turkey has isolated it from the meltdown, as there is little trade or investment between the two countries. Russia The countries in southern Europe are being hit on both sides at the moment. While Turkey is grabbing the headlines, the Russian devaluation is just as painful, if not more so, due to the big role Russia’s economy still plays across the whole territory of the Former Soviet Union (FSU). Russia has been in the front line too in August after its currency fell some 17% since the start of this year in parallel with the Turkish lira’s tumble. However, while the two countries are connected

and the government can weather the storm thanks to its healthy currency account surplus and large hard currency reserves. Russia’s current account surplus increased to $60.7bn in 7m18, versus $53.2bn in the first half of 2018, according to preliminary data from the CBR. The trade surplus also rose to $104bn from $90.6bn, thanks to higher than expected oil prices. At the same time Russia’s gross international reserves (GIR) have been rising and were just shy of $460bn as of the start of August – more than enough to cover 17 months of imports, when economists say the minimum needed to ensure the stability of the currency is three months. And

“Prudent macroeconomic policy-making and strong growth in external earnings helped the GEL remain immune to the sell-off in regional currencies until early August 2018. However, the TRY’s collapse on August 10 affected the GEL through the expectations channel when the currency lost 3.9% in one day against the dollar trading at GEL2.57. Taking into account the ongoing currency crisis in Turkey and sour global sentiment in EM currencies, we expect the USD/GEL rate to weaken to around GEL2.7 compared to our previous GEL2.6 projection for end-2018,” Tblisibased investment bank Galt & Taggart said in an August 13 update on the impact of the crisis. The problem for all these countries is the lira has fallen so far and so fast that it has altered the terms of trade, forcing the local currencies to adjust as their exports to Turkey become much more expensive and imports from Turkey much cheaper. The same is true for their relations with Russia, another key trading partner, where the drop of the ruble has had the same, but less extreme, effect. The double whammy of these currency shifts is causing limited devaluations across the entire region. “The gradual adjustment in the USD/ GEL rate is likely a necessary correction

“The booming tourism industry in Georgia will assay the devaluation pressure” the Russian budget is on course to run a budget surplus of as much as 2% of GDP after several years of deficits. With these reserves the fall of the ruble will be limited, but even the 17% fall spills over into the Caucasus and Central Asia. Georgia Thanks to their close ties, the fall of the lira (TRY) has had the most noticeable affect on the Georgian lari (GEL) and the Azeri manat (AZM), but in Georgia’s case the strength of the economy has limited the damage.

to rectify the GEL’s real gains against the TRY and RUB – Georgia’s two largest trading partners. We also believe that depending on FDI/tourism inflows and import performance, pressure on the GEL might subside in August–September 2018,” Galt & Taggart added. The booming tourism industry in Georgia will assay the devaluation pressure somewhat as an independent source of foreign exchange earnings, but this support will wear off in the next month as the tourist season comes to an end. However, Georgia is unlikely to feel as much pain as Turkey: in the deep deval-

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Singapore’s CG Corp Global to acquire instant noodles production plant in Kazakhstan bne IntelliNews Singapore’s transnational corporation CG Corp Global has “concluded negotiations” on buying an instant noodles production plant, dubbed Lotus, in Kazakhstan’s Turkestan region, Kazakh Invest National Company for Investment Support and Promotion said in a statement. Kazakhstan's newfound focus on food production forms part of its efforts to diversify the country’s economy away from dependence on oil exports. Kazakhstan mostly hopes to export its food products to China, which sees Kazakhstan as a potential source of “ecologically clean” food products. The CG Corp Global group includes 120 companies and 76 brands, operating in the food industry, hotel business, telecommunications, electronics, among other sectors. Follow the acquisition, the noodles will be produced under the Wai-Wai brand and the capacity of output at the plant will be increased, the statement said. CG Corp Global hopes to rely on the plant primarily for its exports to Russia and other Central Asian countries. The estimated cost of upgrading the plant is $15mn.

uations suffered by Russia in 2014 and Ukraine in 2015, the currency fall was cushioned by the almost complete collapse of imports that took the pressure off the current account and so braked the fall of the currency. It remains to be seen what a de facto leap in import prices will have on imports, and to what extent the cheaper exports will rise, but similar forces will be at work to cushion the pain. Certainly Georgia’s trade account has been more than robust in the first half of this year with double-digit growth in exports (28.5% y/y), growing remittances from Georgian’s working abroad (18.3% y/y), and impressive tourism inflows (+28.9% y/y) that lead to a 5.7% appreciation of the lari against the dollar. The central bank took advantage of the balmy climate to add an extra $87.5mn to its gross international reserves (GIR) of just under $3bn, and this cushion can now be used to soften the devaluation pressures if needed. Azerbaijan Azerbaijan is much more exposed to Turkey’s woes thanks to its hydrocarbon-heavy economy. The government has been on a protracted campaign to diversify the economy but the non-oil part remains very small against oil and is more exposed to currency fluctuations. Moreover, the Turkish crisis will also hit the country’s oil sector, according to Azerbaijani economist Gubad Ibadoglu in comments to Eurasianet. Socar is one of the biggest investors into Turkey having committed $19bn, but this investment is denominated in lira so the state-owned oil company has been badly wounded by the lira’s loss in value. At the same time Baku’s sovereign wealth fund, the State Oil Fund of the Republic of Azerbaijan (SOFAZ) has around 0.9% of its holdings in Turkish government bonds, which have also tanked this year, reports Eurasianet. And finally Azerbaijan is exposed to the Turkish banking sector via the Turkish subsidiary of Azerbaijan’s Pasha Bank, which issued $25mn in new bonds this June.

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Rush for newsprint All kinds of shortages have emerged in Iran as the US continues with its attempt at throttling the country’s economy to drive Tehran to the table for a renegotiation of the country’s role in Middle East affairs. In early August, it was reported that the Ministry of Industries, Mining and Trade had permitted the quick import of 20,000 tonnes of newsprint to address fears that a shortage might hinder the printing of newspapers, still very much relied upon by the powers that be in the theocratic republic to get out their message.

Reports of panicked Iranian consumers hoarding essential commodities have forced lawmakers to consider bringing in rationing.

Iran ‘may consider rationing’ if economic strife worsens bne IntelliNews

ran may consider rationing food and other essential commodities if its economic situation markedly deteriorates even further, according to reports from ICANA, the news agency of the Iranian parliament.

With the country under a first-phase sanctions-led economic assault from the US, prices of foodstuffs have risen rapidly in recent weeks with people beginning to hoard everything from rice and flour to other essential commodities in daily use. Officials are currently having to address complaints of nappy shortages. A second phase of sanctions, that target vital areas such as oil exports and banking, will be triggered on November 5. On September 2, the parliament approved a “double-urgency” bill that calls on the Rouhani administration to import essential commodities and sell the items at subsidised prices at cooperatives and state-owned supermarkets.

MPs who tabled the motion earmarked essential items including rice, meat, bread and sugar as products that might be included on a rationing list. Psychological effects The government has attempted to avoid rationing due to the psychological effects it would have on the population at large, but the drastic measure is now reportedly being seen by officials as something that must be seriously considered if the economic situation significantly worsens. Officials continue to tackle avoidable causes of product shortages such as administrative issues at customs and illegal profiteering that involves unscrupulous merchants holding goods back from the market to force up prices. Rationing coupons were used during the Iran-Iraq War in the 1980s, when food and other essential goods became scarce on the Iranian market.

President Hassan Rouhani on August 28 answered a summons to appear before MPs in parliament to defend his government against claims that it suffered from a lack of preparation in advance of the renewed sanctions campaign launched by Washington. Lawmakers have fired the economy and labour ministers, while Rouhani has replaced the central bank governor. Some foreign economists believe annual inflation in Iran should by now be realistically measured as running at more than 200%, with the Iranian rial (IRR) having collapsed against hard currencies. Another sign of the severe disruption to consumer life in Iran came on September 4 when Digikala, “Iran’s Amazon” in the making, said it was laying off 175 of its 2,400-plus-strong staff. In a letter addressed to staff, the company founders said Digikala faced havoc generated by the devaluation of the Iranian rial, the falling purchasing power of Iranians, supply chain problems, the drying up of imports, instability in planning and US sanctions. With the US offering very few concessions in its targeting of Iran with heavy sanctions and the Iranian government placing an import ban on more than 1,300 goods deemed to be “luxury” in order to curb hard currency outflows, several imports popular with middle-class Iranians are now absent from the shelves.

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Tsesnabank and Eurasian Bank’s total assets amount to $5.8bn and $2.7bn, respectively. The central bank claims the two banks have not missed any payments.

State buyout of Tsesnabank loans might hint at lingering Kazakh banking sector woes bne IntelliNews

anking analysts are sizing up latest announcements in relation to Kazakhstan’s second biggest lender Tsesnabank to assess whether the Kazakh banking sector is suffering lingering troubles following last year’s $7.5bn bailout. On September 14, Kazakh officials disclosed plans to buy out KZT450bn (€1.04bn) of agricultural sector loans from Tsesnabank to boost its financial strength. The central bank has been insisting that the bank has been meeting all mandatory regulatory requirements despite a September 3 report that revealed a 30% plunge in its liquid assets in the second quarter. The report certainly raised a few eyebrows, but Tsesnabank attributed the drop to mere attempts at getting rid of “excess liquidity”. However, on September 6 the lender contradicted itself in a statement when it stated that it had taken out a short-term KZT150bn (€344.5mn) loan from the central bank to boost its liquidity. Further

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muddying the picture, the bank added that it had already repaid KZT100bn of the credit and promised to pay back the rest in the very near future given that it had a “sufficient amount of liquid assets”. Not a reassuring picture Thus, the latest news outlining the government move to buy out the agricultural loans does not paint a reassuring picture of Tsesnabank. The bank is reportedly heavily exposed to the agriculture sector. State holding KazAgro,

Despite the uncertainty generated by the recent string of news, the Kazakh government does not at all appear minded to let the two banks sink. Both banks featured in the government’s $7.5bn banking sector bailout. A number of small banks in the country, including Qazaq Banki and Kazakhstan Eximbank, were not so lucky. They received no state support and have been continuously lambasted by top officials for their poor performance. Their licences were recently revoked. The country’s banking sector – still not fully recovered from the 2008-09 financial crisis – has been hit by a rise in bad loans since the slump in world crude oil prices and the tenge free-float in 2015, which depressed the entire Kazakh economy in 2015 and 2016, until it switched trajectory and headed for recovery in 2017. The bailing out of Kazakhstan's largest banks included a merger deal between KKB and Halyk. New appointments at Tsesna Meanwhile, Tsesnabank has been reshuffling its management. The bank appointed Ulf Wokurka, a former Deutsche Bank manager, as chief executive on September 14. In addition, recently released ex-presidential chief of staff Adilbek Zhaksybekov was announced as the bank’s new

“The country’s banking sector has been hit by a rise in bad loans” focused on the agricultural sector, is apparently working with Tsesnabank on restructuring the loans. The lender is not the only Kazakh bank sending mixed signals about its current state of health. Eurasian Bank saw its liquidity drop by 26% in the second quarter.

chairman on September 10. The 64-yearold Zhaqsybekov’s departure from government was explained as a result of his reaching the retirement age. He served as chief of staff between 2004-2018 and was reappointed in 2016. His family controls a group of enterprises through the Tsesna Corporation holding company, which includes Tsesnabank.

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Ex-Telia executives go on trial over bribes paid to Uzbekistan’s Karimova Kanat Shaku in Almaty

ars Nyberg, a former CEO of Nordic telecom operator Telia, and two other defendants have gone on trial in Sweden over allegations that $350mn was paid to Gulnara Karimova in return for the “protection” of the Uzbek government and access to Uzbekistan’s telecoms market. The trio of executives were charged in September last year after the Stockholmbased company agreed to pay $1bn in penalties to settle a long-running corruption probe into how bribes were paid to entities connected to Karimova, the disgraced daughter of Uzbekistan’s late ex-president Islam Karimov, to win licences to operate 3G and 4G services. Telia, as well as Russian companies VimpelCom (later renamed to VEON) and MTS, were accused of paying the bribes. VimpelCom was fined $795mn by the US and Dutch authorities for the bribes it paid in Uzbekistan.

“bribes worth millions of dollars [by VimpelCom] via its bank accounts with ING to a company owned by the daughter of a former Uzbek president". The Amsterdam-based bank said it regretted mistakes that allowed customers to use their accounts for money laundering and corrupt practices between 2010 and 2016. It was fined €675mn and agreed to pay another €100mn as a “disgorgement” payment. Autocrat's daughter Karimova was for years seen as her father’s heir until she was found to be the central figure in international corruption investigations. Court documents compiled by Swedish prosecutors asserted last year that Karimova used tactics of intimidation to wrest control of a major telecoms operator and turn it into a cash cow that she could draw on at her whim.

The Stockholm court on September 4 ordered Telia's current CEO, Johan Dennelind, to testify under oath at the trial.

Four years ago, shortly after the bribery probe was launched, Karimova disappeared from the public eye and was placed under house arrest.

The closing arguments by lawyers are scheduled to be heard from December 11-14.

In September last year, the Uzbek Prosecutor-General's Office said it was seeking to freeze $1.5bn worth of Karimova’s

assets in 12 countries. In total, the Uzbek authorities claim Karimova and her associates have stolen amounts of $1.6bn, €26mn, and UZS1.27tn ($311mn), which roughly adds up to $2bn. In December, Karimova was added by the US to a list of 52 government-linked people from ex-Soviet countries subject to financial and travel restrictions that fall under Washington’s Magnitsky Act. Little information about Karimova's status and health condition has been released by the Uzbek authorities since July 2017 when the prosecutor’s office revealed she had been sentenced in 2015 to five years of “restricted freedom” for embezzlement, extortion and tax evasion. She is said to be detained in a prison located outside Uzbek capital Tashkent. Her son, Islam Karimov Jr. has claimed that his mother only remains alive thanks to computer files she removed from Uzbekistan prior to her detention that hold compromising materials on senior members of the government. That allegation chimes with her lawyer Gregoire Mangeat’s insistence in June this year that her security was not guaranteed, despite her being in good health currently.

ING hit for €775mn September 4 also saw Dutch bank ING agree to pay fines and other payments worth €775mn for “serious shortcomings” in executing policies that would prevent financial crime. One crime was a bribe paid by VimpelCom to an Uzbek company, Dutch prosecutors said in a statement. While Dutch investigators found no evidence of ING helping its customers in potential criminal activities, prosecutors detailed several examples where ING accounts were used in committing crimes. They included the transfer of

In June, Karimova’s lawyer said she was detained in a prison located outside Uzbek capital Tashkent.

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Opinion

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The G20 is the nearest thing there is to global governance these days and Merkel leads Europe.

The end of the post WWII world order Ben Aris in Berlin

t's a tough time to be a diplomat at the moment as the madness of US President Donald Trump has caused so much chaos on the international stage that he is catalysing the break-up of the post WWII order. Germany is now vocally saying it wants to leave the US security umbrella and take its place as a leader on the world stage. Many of Berlin’s proposals dovetail with policies the Kremlin has been pursuing to break Washington’s hegemony over global politics.

Germany’s new Foreign Minister Heiko Maas recently called the US an “unreliable partner,” as he grapples with a range of crises. Missile strikes on Afghanistan and Syria. The destruction of a delicately built Iranian nuclear sanctions deal. US sanctions imposed on enemies and allies alike. Destabilising the Middle East by inflaming Sunni and Sufi sensibilities. And threats to pull out of a raft of international organisations including Nafta, Nato, the UN Commission on Human Rights and the Paris climate accord. All this is a nightmare for countries on the other side of the table, but it has reached a point where those on the same side of the table have decided that the US is as much of a liability as a partner. The US has not become irrelevant. It remains the largest economy in the world and has the most powerful military by a long chalk. But what has changed is the other leading powers are now actively trying to make it as irrelevant as they can. The turning point came following German Chancellor Angela Merkel’s first private meeting with Trump at the G20 summit earlier this year in Munich. A consummate politician with

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decades of experience of dealing with some of the most awkward leaders in the world, Merkel was visibly shocked by Trump and called for an end to Europe’s reliance on the US immediately afterwards. “I have experienced this in the last few days,” she said a few days after Munich without mentioning Trump by name. “And that is why I can only say that we Europeans must really take our fate into our own hands – of course in friendship with the United States of America, in friendship with Great Britain and as good neighbours wherever that is possible also with other countries, even with Russia.” Since then Maas has taken up the baton and in the last two months has started to lay out a blueprint for a new world order where Germany steps up to its responsibility as Europe’s leader and openly challenges the US’s predominance. What is so ironic about this change in mindset is that it will align Germany and its partners with Russia’s President Vladimir Putin, who has made abandoning the “unipolar” model of running the planet for a “multipolar” version where the emerging markets – led by Russia, China, India, Brazil and South Africa – in addition to western Europe, play a much larger role. That process has already started as the G20 summit that so shocked Merkel has taken precedence over the smaller and increasingly irrelevant G7 summits. This year’s G7 summit in Canada barely made the press, while the G20 in Munich was marred by massive and violent demonstrations by anti-globalists.

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And Germany’s call for a change is not limited to broad brushstrokes. Maas has been drilling into specific details that mirror many Russia initiatives to remove levers that Washington could use to pressure the Kremlin. Maas wants an independent European military that would downplay the predominance of Nato, a European payments system that would run in parallel to the US-based SWIFT system, and a proactive EU foreign policy lifted from the nation state level to a formal EU foreign council that can act collectively, amongst other things. Specifically Maas called for a Franco-German alliance that will in effect take Europe out from under the US security umbrella that has been the guarantor of peace since the start of the Cold War, and for Europe to actively oppose the US if it “crosses the line.” The widening Atlantic Germany is the biggest economy in Europe and is flourishing. It currently has record low levels of unemployment, strong economic growth, low levels of external debt and the largest current account surplus in the world. Yet since the end of WWII Germany has been shy of playing a large role in international politics. Now it has put these qualms aside. In a string of speeches and articles Maas is proactively calling for Germany to take the reins of power. Most recently Maas laid out a detailed blueprint in a Handelsblatt article and he was shockingly blunt. “The fact that the Atlantic has widened politically is by no means solely due to Donald Trump. The US and Europe have been drifting apart for years. The overlapping of values and interests that shaped our relationship for two generations is decreasing. The binding force of the East-West conflict is history,” he wrote. The crisis in Ukraine is a good example of the growing divergence between Washington and Brussels. Europeans were annoyed by US top diplomat Victoria Nuland, who walked into Ukraine during the Euromaidan protests and took over. “Fuck the EU,” she famously said in a leaked conversation with US Ambassador Geoffrey Pyatt discussing how to build a new pro-US government. Ukraine is the EU’s backyard but US policy was a cynical attempt to push its own interests in the region. Leaked US embassy cables called former Ukrainian president Viktor Yanukovych “a man we can do business with” before the revolution, as Washington manoeuvred to limit Putin’s attempt to get Ukraine to join his newly minted Customs Union. Nuland later openly picked jobs for Ukrainian opposition leaders, while Europe became increasingly uncomfortable with the American belief that as “the steward of the planet,” as Nuland said in Kyiv in 2014, it could ignore Brussels and Berlin. “If you look around the world at who’s made the largest financial and political contribution to this challenge, the United States, I think, is second to none... Are we, as stewards of this planet,

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going to support the right of individuals to have a say in how they are governed, to live democratically, to live openly, to live in tolerance,” Nuland said during a panel discussion on Ukraine’s East and Crimea: Solving the Unsolvable in Kyiv in 2015. Post Euromaidan, after Yanukovych was ousted, the Europeans reasserted themselves. Then German foreign minister FrankWalter Steinmeier together with President of the European Council Donald Tusk was at a crucial meeting where the top European diplomats persuaded the opposition protest leaders to call for early elections and leave Yanukovych in office in the meantime. bne IntelliNews sources at the meeting described Tusk shouting at the Ukrainian politicians, warning them there would be blood on the street unless they managed the transition democratically. As it was the decision came to nothing as the crowds on Maidan chased Yanukovych out of the country within a few days. The Americans played little role in these dramatic events. The peace accords of Minsk

“Germany’s new Foreign Minister Heiko Maas recently called the US an ʻunreliable partnerʼ” II were also a European deal negotiated between Merkel, France’s then president François Hollande and Putin. The US got back into the game again later when US Secretary of State John Kerry asserted himself, but ever since then pursuing a conclusion to the Ukrainian debacle has been a Merkel project. Iran row Trump’s ham-fistedness has led the EU to become increasingly assertive in its foreign policy clashes with Washington. A more recent run-in was over the US decision to reimpose a tough sanctions regime on Iran despite the fact it was fully complying with the terms of the delicately crafted deal agreed in 2015 between Iran and the permanent members of the UN security council, plus Germany. The agreement was hailed as a diplomatic triumph and more importantly it was working, as inspectors say Iran had completely dismantled its nuclear bomb building research apparatus. Moreover, the deal opened the way for businesses to enter Iran, and European companies have already signed off on a string of lucrative agreements. Trump threw the deal under the bus reportedly at Israel’s behest. In a leaked video clip aired in July by Israeli television, Israeli Prime Minister Benjamin Netanyahu boasted that Israel was responsible for Trump’s decision to quit the Iran nuclear deal. “We convinced the US president [to exit the deal] and I had to stand up against the whole world and come out against this agreement,” Netanyahu says in the video, cited by the Times of Israel. “And we didn’t give up.”

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Brussels was incensed by the decision and called on EU businesses to defy the US threat of retaliatory sanctions for any firm that does business with Iran. “We are encouraging small and medium enterprises in particular to increase business with and in Iran as part of something [that] for us is a security priority,” EU foreign policy chief Federica Mogherini said on August 7, insisting the member states of the 28-nation European bloc would not let the Iran nuclear deal die. SMEs are less likely to have business in the US and so should be immune to US threats. Running battles These two fights have been dramatic, but Washington and Brussels are now fighting a whole series of low key wars – or in other cases Europe is simply getting hurt by the shrapnel Trump is throwing off. The chaos on the metal markets caused the ill conceived April 6 round of sanctions that targeted Russian oligarch Oleg Deripaska’s aluminium firm Rusal hit the London Metals Market hardest and cost everyone a lot of money. The US energy sanctions proposed before that would have meant sanctions on European companies with business in Russia as well as the Russian targets. European efforts to mediate in a broad range of situations including Russia, Palestine, Syria and the war in Yemen have all become unpredictable, as Washington increasingly acts without coordinating with its allies. The difference boils down to the US “might makes right” attitude to foreign policy that comic pianist Tom Lehrer sang about in the 40s and epitomised by the giagantic scale of US military might compared to its allies, versus the EU sticking to its core values as the guiding principles of policy making. The US and the EU have fundamentally different approaches to military strategy that could be characterised as "shock & awe" versus "jaw jaw." “In recent days and weeks in particular, we are finding that where the US Administration overtly calls our values and interests into question, we will certainly need to take a more robust stance in the future” Maas said in his “Courage to Stand Up for Europe” speech to his foreign ministry colleagues in June. “The first test of this approach will be the nuclear agreement with Iran. We Europeans want to defend this agreement and we are united on that. Our aim is not to support Tehran, but rather to prevent a nuclear arms race in the Middle East – something that would also have devastating consequences for our own security here. This can only be achieved if we join forces with France on a very wide range of issues.”

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highlighted by an infographic that was widely shared on social media in June showing US arms exports over the last 67 years. There is little Europe can do to curb US arms exports, but what unsettles Brussels is now the US is starting to supply arms to Ukraine. President Barack Obama resisted sending lethal weapons to Kyiv out of fear of escalating the showdown with Russia, but the Trump administration has been less shy, supplying sought-after US sniper rifles and the tank-busting Javelin missiles, which were deployed in May. The latest US budget drafts include $250mn of military aid to Ukraine, including $50mn for lethal military supplies. Germany prefers to negotiate and engage. Merkel came under fire for meeting Putin in Sochi in May and then again in Germany at the Meseberg schloss on August 17. Merkel was accused of “warming” to Russia, but her forte is finding workable compromises amongst groups of arguing nations and she talks to Putin more than any other foreign leader does. The Meseberg summit was a nuts and bolts meeting where the two leaders tried to find common ground on a range of hot button issues, but also covered more pragmatic subjects like the new Nord Stream 2 gas pipeline and joint investment projects that are still going on. Another item on the agenda was the meltdown on the Turkish lira, which is another good example of where Europe and Washington clash. With a large Turkish expat population and Merkel under fire for her liberal refugee policy, Germany fears a mass exodus from Turkey if the Turkish economy collapses, so Merkel is doing what she can to shore up Ankara’s position. Trump, on the other hand, poured oil on the fire by imposing painful sanctions on Turkish metal exports in the midst of the crisis. Merkel has turned to Putin, as an increasingly close ally of Ankara, to help ease the pressure and try and talk some sense into the increasingly unhinged Turkish President Recep Tayyip Erdogan. Merkel has already started to dial down the anti-Russian rhetoric. In the week following Meseberg she toured the Caucasus to show solidarity with the small republics that are all in Russia’s shadow. However, she disappointed Georgians, who were commemorating their war with Russia exactly ten years ago, by failing to affirm Tbilisi’s Nato accession aspirations or even use the word “occupied” in reference to the territories Georgia lost to Russia in the 2008 war.

Arms fuel fights One of the biggest differences in approach between the two camps is the attitude to military support. The US default foreign policy is pouring arms into a disputed region as a way of obtaining control over a government and making some money in the process.

“I don’t see Georgia becoming a Nato member any time soon,” the chancellor told an audience of students at Tbilisi State University on August 24. “Given the situation with [breakaway] Abkhazia and South Ossetia, we can’t talk about the swift integration of Georgia into Nato,” she said as cited by Eurasianet.org. “At least this is Germany’s position and it will remain as such.”

The US has swamped the Middle East with arms, as was

Nato will change in the new order. Maas has explicitly called

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for Europe to play a more assertive role in the military alliance that has traditionally been a US proxy as well as for the creation of a dedicated EU military force. “It is in our own interest to strengthen the European part of the North Atlantic Alliance. Not because Donald Trump is always setting new percentage targets, but because we can no longer rely on Washington to the same extent,” Maas wrote. An EU army a half step away from largely relying on the US military for European security and setting up a truly multinational force under the direct control of the UN. Articles 42 and 43 of the UN Charter authorize the Security Council to use armed forces to maintain international peace and security, but in the past it has been organized along national lines, with members contributing forces from with their own armies to a “blue helmet” force and with the US often taking the lead. However, Article 43 of the UN charter provides for a permanent independent UN Army that the UN itself could put into the field. This provision has never been used and no plans to create UN army have ever been drawn up. What Maas is talking about is for the creation of a half measure, a pan-European force with a single command that would work in tandem with the US force in any UN mandated operation, instead of the command-by-committee that is the case now with all European countries being individually represented. Obviously if the EU had a permanent standing army of its own, the role of Nato would be diminished and the UN would take on a larger role in international peacekeeping.

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The US mourns the death of Senator John McCain, but the lasting image of the veteran US politician for the Kremlin is his speech on the stage in the midst of the Euromaidan protests in 2014 saying “America is with you.” America is outraged by Russia’s meddling in the 2016 presidential election, but the Kremlin feels much the same about the US. Putin watched from the sidelines when US political advisors got Boris Yeltsin re-elected in 1996, lifting his ratings from 8% to 54% by using the whole box of dirty electoral tricks and then boasted about it in a Time magazine cover story “Yanks to the Rescue – the secret story of how American advisers helped Yeltsin win.” Putin went on to equate the US funding of pro-democracy NGOs as attempts to build a pro-US democratic force that would act as a fifth column inside Russia. He finally introduced a law forcing NGOs that took foreign grants to be ladled “foreign agents” in July 2012, which was about the same time as he started the modernisation of the army, which marks the point of no return in the decaying relations between Moscow and the west. The annexation of the Crimea followed two years later, immediately followed by a big push to set up a Russian payment system and so break Washington’s potential chokehold over executing financial transactions using cards

New world order Maas’s solution to all these problems is for Germany to tie up with France and then use the combined weight of a united Europe to match the US’s increasingly selfinterested foreign policies. “Let’s use the idea of a balanced partnership as a blueprint, where we assume our equal share of responsibility. In which we form a counterweight when the US crosses the line. “If we go it alone, we will fail in this task. The outstanding aim of our foreign policy is to build a sovereign, strong Europe. Only by joining forces with France and other European nations can a balance with the US be achieved,” Maas said in his article. This is an openly confrontational statement and one that won’t go down well in the White House. Moreover Maas explicitly says it is time for the Franco-German alliance to take over the job of global policeman – a role that has until now been played by Washington. “The European Union must become a cornerstone of the international order, a partner for all those who are committed to it. She is predestined for this, because compromise and balance lie in her DNA,” said Maas. What does this mean for Russia? On balance Putin will probably be happy to see US power dialled back.

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via SWIFT. The Mir (Peace) payment system was launched in April 2015, a move the Germans are now intending to copy. Like Nuland saw Yanukovych, Putin sees Merkel as a person he can do business with. The personal chemistry between them is not strong, but they are both pragmatists, both totally on top of their game and both acting from a very clear idea of what is in their national interest. And the bottom line is a multipolar world built on negotiation, debate and compromise that is what Putin has been pushing for all along. “We also need a new Ostpolitik, that is, a European Ostpolitik that also shows new ways to cooperate with Russia in the interests of all European countries – and not merely those chosen by Russia, given the dangerous silence between Washington and Moscow,” Maas said. “It must take into account the needs of all Europeans… and it must find a balance between security interests, economic cooperation and collaboration on cultural and academic matters.”

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Indeed, Maas’s agenda of an independent military power and independent payments systems, and the calls for a Europe led by a Franco-German alliance that has the same clout as the US could have all been taken from Putin’s own playbook. And Russia will have to play a role in any future multipolar order. “We are striving for a multilateral alliance, a network of partners who, like us, are committed to sticking to the rules and to fair competition,” Maas concluded. “Our common response to “America First” today must be “Europe United!”” Of course these changes and these new bodies are not going to come overnight. It is going to be a long slow process, full of twists and turns, reversals and idiosyncrasies. But merely adding three billion socialists to the capitalist world has unleashed tectonic forces that can’t be contained. It is perhaps, as British Prime Minister Winston Churchill said: “Now this is not the end. It is not even the beginning of the end. But it is, perhaps, the end of the beginning.”

COLCHIS:

Georgia’s security conundrum

Michael Cecire of New America

en years ago this month, Russia and Georgia fought a brief but ferocious war, which saw Russian forces openly cross international borders in anger for the first time since the Soviet era. Though broadly under-appreciated at the time, Moscow’s 2008 military adventure would come to be widely regarded as marking the return of an aggressive, expansionist foreign policy, carrying over into conflicts in Ukraine and Syria, as well as in a broader, extended strategic showdown with the US and Europe. The decennial of the Georgia-Russia war is a potent reminder of the tragic repercussions of that conflict, the seeming intractability of Western-Russia relations, as well as the uncomfortable limitations of Euro-Atlantic security architecture, which did little to prevent the Georgia war or to attenuate Russian militarism in the years since. Euro-Atlantic institutions, and particularly Nato, have not effectively managed the widening corridor of Russia-involved security crises in the years since.

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Tending the graves of Georgian soldiers killed in the 2008 war with Russia at Tbilisi's Mukhatgverdi Cemetery.

Despite the impressive durability of Western engagement in Georgia, and the gratifying symbolism represented by multinational military exercises like the latest edition of Noble Partner, Georgia is as trapped as ever between Nato’s half-hearted overtures on one hand – enough to offer Georgians the faint facsimile of forward momentum, if only just – and the unforgiving strategic realities of the region, which ever-threaten the fragile stability Georgia has painstakingly won over the years. In the pale moonlight Put more bluntly, Georgia is unlikely to join Nato in the foreseeable future, no matter how much “progress” it makes, given Nato’s acute internal divisions over the question of expansion. While expansion should not be taken lightly, the Alliance’s growing categorical aversion to extending the frontiers of the liberal democratic space – albeit in the name of retrenchment – suggests an alliance increasingly unmoored from its founding values. This was a predictable recipe for crisis, and,

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unsurprisingly, the result today is a Nato whose identity, purpose, and unity is as unclear as it has ever been. For Georgia and other Euro-Atlantic aspirant states, this presents a troubling proposition. An enthusiastic and dedicated Nato partner, Tbilisi’s commitment to the EuroAtlantic project has left it in a geopolitical halfway house, earning it the extended ire – and malign attentions – from its powerful northern neighbour, but few tangible security benefits. It would not be an analytical stretch to surmise that Georgia’s Euro-Atlantic orientation has been, thus far, a net security negative. To be sure, this is only true because of Moscow’s insistent and varied predations, but it is a strategic conundrum for which Nato or Western capitals have offered no clear solution. Yet, ten years on from the 2008 war, Georgia’s outstanding strategic uncertainties and unrequited Euro-Atlantic affections are less the stuff of kitchen table talk and more of grist for the foreign policy elite. In the most recent data from the Caucasus Barometer, the annual household survey conducted by CRRC, support for Euro-Atlantic integration fails to register as one of the top issues faced by ordinary Georgians. While 67%

“Georgia is unlikely to join Nato in the foreseeable future” profess to supporting Nato integration, only 41% do so with few or no caveats, with 20% largely opposed. Of course, Nato to the average Georgian is a policy abstraction at best, and it’s entirely expected that national security and strategic questions would be subordinated to more pedestrian issues like economic opportunities, pensions, and healthcare. But it does reveal a kind of apathy towards Nato that has gradually seeped into the Georgian political consciousness. However, even as the prospect of Euro-Atlantic integration – Nato or EU – has dimmed with time, Georgia has not stood still. While foreign policy analysts find despair in Georgia’s extended strategic precarity, life for ordinary Georgian residents has seen steady gains over the years. Georgia’s unemployment rate (laudably calculated more realistically as of 2017), hit new lows in the last few years, even if it remains high and leavened by underemployment. Tourism in the country is booming, bringing foreign dollars as well as a bevy of positive externalities. The social welfare net has gradually expanded in recent years, most notably through the development of a universal health insurance programme, and looks set to expand further under a new prime minister. Anecdotally, the number and variety of jobs available in the country are expanding, even in regional locales long resistant to organic economic development, and the makings of a

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consumer-driven economy are starting to take shape in even the unlikeliest of places. For an increasingly broader swath of the population, a realistic, middle-class lifestyle is increasingly attainable, and not only in Tbilisi or bigger urban regions like Batumi or Kutaisi. Meanwhile, Georgia may be experiencing a tourism boom, but it’s also exporting its own visitors to Europe, Turkey, and the Middle East at a healthy clip, thanks to growing and affordable air links and an increasingly strong passport (with visa-free travel possible to Turkey, Europe, and Israel, to name a few). Far beyond the stars Even if realistic pathways into Europe’s grand institutions look like long shots, Georgia’s “Europeanisation” has proceeded apace. Certainly, the quality of Georgia’s political and social institutions can leave much to be desired, and optimism is often treated in the region as the straightest path to looking foolish. But to which bar should Georgia’s European ambitions be held? Even within the EU’s prosperous conclave, political infighting, economic sluggishness, and radical populism are hardly foreign phenomena, and in many cases even more urgently apparent than in Georgia. Lacking the security guarantees of Nato or the economic insurance of EU membership, Georgia has nonetheless maintained its democratic bona fides while its more democratically “consolidated” brethren to the west have slipped into autocracy – Turkey, Hungary, and Poland, to name the best known cases. Perhaps it’s telling that ten years removed from Russia’s invasion, the war’s anniversary has in some ways been overshadowed for many Georgians by the Constitutional Court’s de facto legalisation of marijuana. What if Georgia has become “European” while no one was looking? Although Georgia’s per capita GDP is barely half that of the EU’s poorest member, Bulgaria, it is by most metrics quite “European” in its politics, governance, and social trajectories. Truly, Georgia has its share of crypto-populists, but hardly in size or composition that would be out of the ordinary in almost any other European country – and far fewer in size or influence than many. To be sure, Georgia’s institutions are imperfect, and its democracy is far from being anything approaching irreversible. Yet, as the roiling politics in the West has recently made clear – as “consolidated” democracies rapidly lurch towards authoritarianism – the conventional teleological typology for democratic development was revealed to be so deeply flawed to be virtually meaningless. The 2008 war was supposed to reveal Georgia’s folly for trusting in the West and daring defy its historical overlord, Russia. In many respects, that message has been delivered, and Georgia is no closer to full Euro-Atlantic integration than it was in that fateful year. But in a larger sense, Georgia today is more European than ever, and Russian regional dominance is rather one-dimensional. Tbilisi may never win entry to Europe’s exclusive clubs, but no one can stop its Westward march – not Moscow, Washington, or Brussels – even if without the false validation of EU or Nato membership.

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I New Europe in Numbers

Romania: Banking System's Profits, NPL ratio [€mn, %]

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Romanian banks post stellar profits in H1 while NPL ratio drops Romanian banks achieved €390mn aggregated net profits and a return on assets (ROA) ratio of 1.67% in Q2, slightly improving the records set in Q1 and marking the second-best post-crisis performance, according to bne IntelliNews calculations based on central bank data. The record H1 profits come on top of three years (2015-2017) of aggregated profits posted by Romanian banks. Banks’ assets increased by 9.0% y/y (6.5% in euros) to RON434.6bn: €93.2bn, less than 52% of GDP and still lagging behind the 56% ratio before the credit crunch at the end of September 2018.

Turkey’s Central Government Budget Balance

Turkey’s budget deficit expands 563% y/y in August The Turkish government’s August budget deficit grew 563% y/y to TRY5.8bn (€136mn) following the surplus growth of 22% y/y recorded in July, finance ministry data showed on September 17. “The budget balance showed some deterioration last month on a yearly basis with a spike in both primary and interest expenditures, despite healthy revenue generation,” Muhammet Mercan of ING Bank said in a research note. The pace of the real increase in tax revenues lost momentum with a mere 0.6% real growth in August vs 5.7% on a year-to-date basis.

Russia monetary policy rate vs inflation CPI

Russia's CBR front-loads key rate to 7.5% to tame the market The Central Bank of Russia (CBR) surprised analysts by hiking its monetary policy rate by 25bp to 7.5% – the central bank’s first increase in interest rates since 2014. The increase was in reaction to recent emerging market volatility, ruble weakening, and sanction pressure on Russian assets. The last time the CBR hiked rates was an emergency rate hike in 2014 to 17% to steam the meltdown of the ruble after oil prices crashed that November. The CBR is taking sanction risks seriously as instead of keeping the rate unchanged and resorting to issuing a tougher guidance, it decided to front-load.

Czech nominal wages LC

Average salary in Czechia hits all time high with 8.6% y/y increase in second quarter Czechia’s average wage rose by 8.6% in the second quarter of this year y/y to CZK31,851 (€1,238) - the highest in Czechia’s history – according to data released by the Czech Statistical Office on September 4. In real terms, the rise was 6.2%, which is the second largest growth since 2003. The median value increased by 9.4% to CZK27,236, which is the fastest increase since 2008. The low-paid groups should, for this reason, benefit more from the sharp increase than better-paid ones.

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the country’s regulator – most of this stems from devaluations of the currency prior to the central bank adopting the free-floating exchange rate in 2016. Kazakhstan has experienced no less than six such devaluations or “devalvatsiyas” – a word that has come to signify the rapid and sudden weakening of the tenge rather than a general term for loss of value over time – since gaining independence in 1991.

Post Soviet nation currencies have varying degrees of exposure to the course of the Russian ruble. The Kazakh tenge is seen top left.

Ruble fallout sends Kazakh tenge to brink of all-time low Kanat Shaku in Almaty Kazakhstan’s national currency hit KZT380.93 against the dollar on September 12, falling to a 31-month low. The all-time weakest tenge to the dollar rate of KZT382 occurred in early 2016, thus the currency is on the brink of suffering its weakest ever value versus the USD. The tenge has largely fluctuated around KZT340 throughout most of the year, but it acquired fresh downward momentum in July which accelerated in August. To date, in September, there has been further devaluation. The plunge has been mainly ascribed to the tenge’s strong links to the under-pressure Russian ruble. The tenge has lost 14.6% against the dollar in the year to date. Kazakh companies are buying dollars on fears that US sanctions against Russia are set to intensify. Kazakhstan and Russia have close trade ties, where the latter approximately accounts for 35% of the ex-Soviet Central Asian nation’s trade. Not everybody agrees with the significance to the currency of the trade correlation, however. Kazakh economist Petr Svoik argued earlier this year that

the tenge fluctuations follow the ruble exclusively due to perception effects rather than direct economic ties. "The tenge is tied to the ruble politically. In general, the floating rate of the tenge

The adoption of the free-float currency system essentially tied the tenge directly to two primary factors – changes in world oil prices due to the country’s reliance on hydrocarbon exports and the rate of the Russian ruble. As seen from the recent downward trajectory of the tenge, growing oil prices have largely failed to counteract the rubledependency. Aivar Baikenov, director of the asset management department of Kazkommerts Securities, said last year that the tenge has a stronger correlation with the ruble than with oil prices. But this phenomenon is being intensified by the approach of Kazakh citizens. Kazakhs have grown accustomed to their national currency crashing abruptly to the detriment of the general population. The attitude taken

“The tenge has lost 14.6% against the dollar in the year to date” in Kazakhstan is not an economic, but a political phenomenon,” Svoik told Zakon.kz news website in April. “Local banks react to geopolitical and economic events outside of Kazakhstan, and above all to events at the Moscow currency exchange and the Moscow trading platform.” Some Kazakh analysts argued earlier in 2018 that the tenge was “overvalued” and that its “real value” stands at around KZT420 to the dollar. Demoralised population Another major effect on the tenge probably comes from the demoralised Kazakh population’s general distrust of

towards the exchange rate, whenever it shows signs of weaknesses, spurs Kazakhs to attempt to outsmart or out-gamble the authorities, who are seen as malevolent. The Kazakh central bank has more than enough funds to draw on to keep the currency more-or-less stable – Kazakhstan's international reserves were recorded at $87.7bn as of June. When all else fails, the bank is allowed to rely on the National Fund with assets worth $50bn-$60bn for conducting additional interventions. This time, it seems the Kazakh central bank has openly decided to let the tenge drop alongside the ruble.

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