Sunday, March 29, 2015

Going long Russian stocks

Back on 1/3/15 I pointed out how cheap Russian stocks had become. I said at the time that I was nibbling on them. In the last week or so I have made a more substantial commitment to Russia. The reason for this is because the Russian market is one of the cheapest markets in the entire world. The other reason is that I believe that an inflection point has been reached on several fronts regarding Russia.

The first point is that I believe that although Russia is feeling the pain of lower oil prices I do think we are getting near a bottom in oil prices. This has been made clear as we have seen announcements of hundreds of billions in curtailed investment in the oil sector. The carnage is just beginning for the US based shale producers as several have declared bankruptcy already with more on the way. As growth in demand for oil is relentless it makes sense that curtailing investment in future production will at some point lead to a drop in production and higher prices.

The second, and most important part, is that Russia is winning the geopolitical contest. Most people are not focusing on the events in Ukraine but the events unfolding there are instrumental in understanding Russia. Many western analysts are observing Russia and assuming that the Russians are acting irrationally with respect to Crimea and Eastern Ukraine. In fact they are are being historically and politically consistent in their actions.

With respect to Crimea. Sevastopol has been a Russian naval port for three hundred years. The Russians fought many wars against the Ottoman Turks and Germans over this important port. Sevastopol was enshrined as one of 12 "hero cities" during WW2. It is the only warm water southern port that Russia has and affords access though the Bosphorus to the Mediterranean Sea. The Russians have a historical and geopolitical claim on this place. They were never going to relinquish control of Crimea as it would be militarily unacceptable to allow this port to become a NATO port and allow western dominance of the Black Sea, which is on Russia's southern border, to fall outside of Russia's control. It would be akin to allowing the Gulf of Mexico fall out of control of the United States. Putin sums this up in a quote from a 2014 speech:

“NATO remains a military alliance, and we are against having a military alliance making itself at home right in our own backyard; in our historic territory. I simply cannot imagine that we would travel to Sevastopol to visit NATO sailors. Of course, most of them are wonderful guys, but it would be better to have them come and visit us, be our guests, rather than the other way round.”

                                                  WW2 Sevastopol War Memorial

Regarding the conflict in Ukraine. The US and western media bombards us with propaganda that pushes the narrative that Russian involvement in Eastern Ukraine is Russian aggression against democratic reforms in Ukraine. In fact the change in government in Kiev and the Maidan coup were western orchestrated and financed by the US.  The former president of Ukraine, Viktor Yanokovich, was no doubt a complete crook but he was duly elected and was the legal President of Ukraine. 

The new pro-western regime in Kiev has quite literally put the fear of god into Russian leadership. Again this is complicated by the fact that for all of Russia's history it has been the victim of continued invasions on its western borders. Just in the last one hundred years the country was invaded by Germany twice, once in WW1 and again WW2. The Russians call WW2 the Great Patriotic War and it is viewed as a war of civilization survival for many Russian people. 

Take a look at this map and it should be obvious why Russia does not want Eastern Ukraine to fall under control of the US and the EU.

 As one can see eastern Ukraine juts right into the center of Russia. With the history that Russia has it is unacceptable for the Russians to allow the EU/NATO to get right up on their border. This is especially true as the new government in Kiev, at the behest of the US and the EU, keeps blathering on about joining the EU and NATO. It seems to be forgotten by most western observers that the Russian psyche is scarred by the loss of 25 million people in WW2. This was the last time that Russia allowed Germany to be right on her border (after the fall of Poland to Germany in 1939). Again Russian President Putin has been clear on this matter. 

It does not really matter if you agree with me on this matter or if you dislike Putin and Russia. One thing and only one thing matter in this conflict. Is anyone in the EU or the US willing to to go to war and die to stop the Russians from having Eastern Ukraine as its buffer from the west? The answer is no for the majority in the west. However, I suspect that the Russians will fight and die for their historical claims. Therefore, my view is that although it will not come to that we will see the EU begin backing away from the US on this matter over time. The Europeans especially Germany under the leadership of the a weak and feckless Angela Merkel will back down and seek reconciliation with Russia. The turning point in my mind was the battle of Debaltseve in eastern Ukraine in January 2015. This was a decisive battle and a place where the Ukrainian Army was devastated as it was trapped in an encirclement and literally destroyed by the armies of the Donetsk and Lugansk Peoples Republics. It is illustrative of my thesis that once the outcome of the battle became known German Chancellor Merkel and French President Hollande got on a plane and met with the Russians to hammer out the Minsk 2 agreement that has led to a barely tenable ceasefire. 

In my view this is a turning point as it has demonstrated, at least for the Europeans, that the US puppet regime in Kiev is ineffective and that continuing on with supporting this will be to their long term disadvantage vis-a-vis Russia. I suspect what will emerge of over time is a loose federation with the eastern parts of Ukraine having autonomy from Kiev. There could be further flareups and small skirmishes but I do not think the Europeans will have the stomach to continue on with Washington's plans. Over time sanctions should be allowed to expire and oil prices will eventually climb again. That will hopefully lead to a revaluation upwards of Russian stocks as the Russian economy turns around.

Another motivational factor for this outcome is that the Ukrainian economy is in shambles with the Ukrainian currency facing hyperinflation. I would not be surprised if the regime in Kiev does not come under pressure from its own former supporters if they do not get the economy under control and turned around soon. The Kiev regime actually thought they would get support from the EU and the US but they found out, like many others in the world, that the US talks big but rarely follows though with its promises. 

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