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The growth in the correlation coefficient between changes in the index and the oil price between the early 2000s and July 2005 was due to the fact that during that period, both factors that affect the dynamics of the stock market namely, oil prices and cash inflow into foreign The EPFR data of in-and outflow of funds in/out of foreign funds whose profile is investment in Russia can be regarded as an indicator of investment behavior pattern of larger foreign portfolio investors, including global and regional funds. By our estimates, the specialized funds portfolios make up some 50% of regional and global investment funds investment in Russia. Should, for instance, investors in a specialized fund withdraw their investments therefrom, that does not yet mean capital flight out of Russia. Capital flight would occur only when a fund begins selling out its investments in Russian equities to honor its obligations before its investors. If cash is withdrawn out of global or regional funds, it is practically impossible to quantify the impact of this transaction on contraction of these funds investment in Russian equities, which accounts just for a fraction of the funds aggregate portfolio. That said, if cash is withdrawn out of foreign funds specializing in Russia, global and regional portfolio investors are most likely to be scaling back on their investments in Russia too.

Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Jun-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Dec-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Section Financial Markets and Financial Institutions funds investing in Russia exhibited a unidirectional effect. Oil prices were being on the rise, portfolio investments were pouring in, and the RTS index was climbing up steadily. As shown in Table 2, between November 2000 and June 2005 the specialized funds cashed in $ 1.5bn of investors' money.

2000 April 1400 April July 1000 March December -April 0 -Increase in the RTS index (left axis) Increase in Brent prices (left axis) Inflow/outflow of capital in/from funds, Investing in Russia (right axis) Source: by data of IFS IMF, MICEX and EPER.

Fig. 9. Increase in the RTS Index, Oil Prices, Inflow (Outflow) of Resources in Funds Investing in Russia The fall of the correlation coefficient between July 2005 and April 2008 to -0.5 was driven by multidirectional dynamics of oil prices and foreign portfolio investors funds. Between July 2005 and April 2006, despite the increase in the volatility of oil prices, the funds investing in Russia absorbed new investments worth a total of $ 4.8bn (see Table 2 and Fig. 9). Behind the spike of the inflow of short-term investments was international investment rating agencies awarding Russia their investment ratings. More specifically, FITCH did that on November 17, 2004, and S&P followed the move on January 31, 2005. Besides, on May 31, 2005, the first verdict on the first of Mikhail Khodorkovskys trials was rendered, and many portfolio investors bought the Russian authorities assurances that the case would be an exception. However, since April 2006 through nearly April 2008, investors in the foreign funds drastically revised their preferences. Despite a steady increase in oil prices, the funds investing in Russia began seeing a hectic withdrawal of funds (see Fig. 9). As a result of the portfolio investment outflow, the RTS index growth rate decelerated significantly vis--vis a rapid rise in oil prices.

Between April 2008 and April 2009, the increase in the correlation coefficient up to 0.fell on the stock markets collapse. At the time, a sharp decline in oil prices was accompanied by a vigorous withdrawal of cash out of the foreign funds investing in Russia, while the RTS index was likewise sent nose-diving over the period in question.

The fall of the correlation coefficient, as well as of the oil price index to -0.2, between April 2009 and April 2011 was once again due to the fact that the accelerated growth of the RTS index was based largely on an active cash inflow in the foreign funds in parallel with a %, November 2000 = 100% Accruals from December 2000, $bn Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Jan-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Sep-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Mar-Nov-Nov-Nov-Nov-Nov-Nov-Nov-Nov-Nov-Nov-Nov-Nov-May-May-May-May-May-May-May-May-May-May-May-RUSSIAN ECONOMY IN trends and outlooks moderate rise in oil prices. During that period, the funds received a new $10.2bn of investors funds.

That the coefficient of the correlation between the index and oil prices between May and December 2011 bounced back to 0.8 should be ascribed to the fact that the oil price factor and the foreign investment one once again began working unidirectionally. Oil prices were down in the second half of the year, and private investors began to withdraw their cash from the funds that invested in Russian equities. Between May and December 2011 the funds lost $ 4.6bn and the RTS index, accordingly, was notably down, too.

Table Cash Inflow/Outflow in/from Foreign Funds Investing in Russian Equities according to EPFR Inflow (+)/ Outflow () in/from the funds, as $ mn November 00 June 05 1,July05 April 06 4,May 06 March 09 -9,April 09 April 11 10, May 11 December 11 -4, Source: calculated on the EPFR data.

Displayed in Fig. 9, the graph of cash flows accumulated by foreign investment funds specializing in investments in Russia shows that radical changes in the investors behavior were there in May 2006 and May 2011 This allows identification of main factors that affect major portfolio investors decisions, as well as estimating volumes of cash flows that can generate price shocks across the market for Russian equities. According to Table 2, between May and March 2009 as much as $ 9.0bn was withdrawn from the foreign funds that specialize in investing in Russian equities, and another $ 4.6bn was withdrawn between May and December 2011. Even if one doubles the estimates with account of a possible similar behavior of managers of regional and global funds which were disinvesting in Russia at the time, it turns out that shock changes in stock prices on the Russian market can engender a gradual withdrawal of an amount equal to an aggregate 1-2-day volume of trading on the MICEX-RTS.

A provocative explanation of factors which predetermine adverse changes in the behavior of foreign investors in funds specializing in investment in certain markets was offered by the IMF experts in the September 2011 Global Financial Stability Report1.They employed the EPFR data on the in- and outflow of cash in/from special investment funds for the period between January 2005 and May 2011 across equity funds worldwide, in Asia, Latin America, Europe and the Middle East, and in developed economies. According to the study, the most substantial factors with the significance rate at a level of 1% with regard to cash in- and outflow were:

- official projections of real GDP growth rates (with +);

- volatility of GDP growth rates (with );

- volatility of exchange rate(s) (with );

- indicator of expected volatility in the stock market - index VIX (with "-").

Meanwhile, the indicators of the level of interest rates and strictness of forex regulation proved to be among loosely significant factors.

IMF. Financial Stability Report. September 2011, p. 1118. Posted at: www.imf.org.

Section Financial Markets and Financial Institutions These factors can be regarded as harbingers of future crises on financial markets. Investment funds portfolio managers specializing in certain markets fairly successfully employ such factors. Interestingly, the said IMF study maintains that the strongest shock in the form of a maximum amount of $ 4.4bn withdrawn from funds investing in Europe, Middle East and Africa fell right on June 2006. It was the very month when, as displayed in Fig. 5, there occurred a reverse in the tendency that concerned the funds investing in Russian equities. In the circumstances, in April 2006, the IMF report on the global economy noted a trend to reduction in GDP growth rates in H2 of the year in the most significant developed and emerging economies1 as well as disturbances of VIX index that became visible since Q2 20052. Both phenomena might signal an outflow of portfolio investors funds. Spikes of volatility of projections of GDP growth and stock price hikes mirrored experts and markets concerns about disproportions of national trade balances, the looming crisis on the U.S. market for mortgagebacked securities and other factors that ultimately led to the 2008 recession.

Interestingly, while withdrawing cash out of the funds investing in European equities, including Russian, Middle-East and African corporations, in June 2006, global portfolio investors displayed a phenomenal foresight, thus outrunning in this regard the most courageous prophets of the future financial crisis. The famous statement by Prof. N. Rubini about the looming mortgage crisis at the IMF meeting was made only in September 2006. At the Davos meeting in February 2008, Mr. A. Kudrin, Russias Finance Minister, argued that Russia was going to be a safe harbor amid the global financial crisis. However, foreign investors began running out of Russia and the other emerging markets already as early as in May 2006.

The causes behind the capital outflow from the funds investing in Russia in May proved in many ways similar to those noted back in May 2006. Last time, global portfolio investors were likewise alerted by the increasing volatility of the global economic growth projections and the international financial organizations having cut their projections of GDP growth rates in the biggest economies.

3.2.3. Forex Rates The differences in the intensity of depreciation of the Ruble during the crises in question determined different dynamics of the RTS and MICEX indexes recovery. As equities in the portfolio MICEX index are valued in the Ruble equivalent, while those in the RTS indexs in the USD equivalent, the subsequent recovery of the MICEX index following a more than 5-fold depreciation of Ruble3 in 1998 was outpacing that of the RTS index (Fig. 10). It was already May 1999 when the MICEX index bounced back to its pre-crisis peak value, i.e.

just in 8 months after it had hit the bottom of the crisis. By contrast, it took the RTS index months to recover after a similar plunge.

World Economic Outlook (WEO), April 2006, Fig.1.8. Posted at: www.imf.org.

In his book, "Fault Lines" (Moscow, Delo Publishers, 2011, p. 272) R.Rajan noted that between Q2 2005 to Q2 2007 two-year implied volatility of S&P500 option price was at 3040% above the short-term one-month volatility.

Between 1998 and 2003.

RUSSIAN ECONOMY IN trends and outlooks 8,Russia (RTS) 1997 Russia (MICEX) 1997 USD/Rb. exchange rate as of end-month Source: MICEX-RTS and the Bank of Russia.

Fig. 10 Changes in the USD Exchange Rate, the RTS Index and the MICEX Index during the 1997-98 Crisis (July 1997 = 100%) During the 2008-2009 crisis, the peak level of the Ruble devaluation accounted for 50% (Fig. 11), followed by its appreciation. For that reason, the RTS and MICEX indexes had been recovering at a practically equal pace, with the latter index slightly outpacing the former one. In January 2012, the RTS index hit 64.1% of its peak value registered back in May 2008, while the MICEX index climbed up to 78.6% of its respective peak value.

135,150,78,31,64,21,Russia (RTS)-2008 Russia (MICEX)-2008 USD/Rb. exchange rate as of end-month Source: by data of JSC RTS, MICEX, and the Bank of Russia.

Fig. 11. Changes in the USD Exchange Rate, the RTS Index and the MICEX Index during the Crisis between May 2008 and January 2012 (May 2008 = 100%) decline, % Jul-Jul-Jul-Jul-Jul-Jul-Jul-Jan-Jan-Jan-Jan-Jan-Jan-Sep-Sep-Sep-Sep-Sep-Sep-Mar-Mar-Mar-Mar-Mar-Mar-Nov-Nov-Nov-Nov-Nov-Nov-May-May-May-May-May-May-Dynamics, % Jul-Jul-Jul-Jul-Jan-Jan-Jan-Jan-Sep-Sep-Sep-Sep-Mar-Mar-Mar-Nov-Nov-Nov-Nov-May-May-May-May-Section Financial Markets and Financial Institutions 3.2.4. Competition on the Domestic Equity Market The year of 2011 saw a notable increase in public corporations and agencies influence on the stock market, which manifested itself in expansion of the proportion of state-owned financial institutions in the volumes of equity trading, their role in managing the merged MICEXRTS exchange, public agencies powers with regard to regulation of, and control over, infrastructure organizations, and enactment of the law on insider trading on the financial market.

Fig. 12 displays results of state-owned banks and their associated structures1 equity transactions on the major MICEX-RTS market. At the peak of the crisis, between September and July 2009, this segment of the market witnessed a notable increase in state-owned players activity. In December 2008, their proportion in the volume of market equity transactions surged to 50.9%. It was in many ways determined by the process of transition of a string of large agents (KIT-Finance, Svyaz-bank) under state-owned banks control, as well as by implementation by VEB of the stock market support program with the use of a repayable loan of Rb 175bn from the National Welfare Fund. During the market recovery period, the share of state-owned banks and their related structures in the volume of equity trading tumbled, but the tendency has reversed since February 2011, and the said share hit the level of 36.1% in December 2011. This can be ascribed to Troika Dialogue having transited under Sberbank of Russias control in tandem with the rise in the companys trading activity.

50,36,2005 2006 2007 2008 2009 2010 2011 State-owned structures, less CBR Other participants CBR Source: calculated by the MICEX-RTS data.

Fig. 12. Shares of Private and Public Brokers in Volumes of Stock Trading at MICEX-RTS, as % The presence of a considerable number of players on the stock exchange market, including servicing non-residents, a vigorous application of algorithmic trading patterns and other shortterm strategies ultimately resulted in a highly competitive domestic stock market, despite of VEB, VTB, VTB Capital, VTB24, Gazprombank, Sberbank, KIT Finance, Svyaz-bank, the Bank of Moscow, Transcreditbank, and Troika Dialogue (since 2001).

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