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. Last Updated: 07/27/2016

Revenge of the Bulls

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The summer of 2001 is proving sweet to what had until recently seemed a seriously endangered species: the Wild Russian Bull. Suddenly, Moscow, London and New York are abuzz with Russia conferences and seminars. As foreign investors return to admire the wonders of the resurrection, local brokers are again threatened with the twin ravages of sleep-deprivation and liver failure — escorting investors through oil fields by day, through Moscow's grueling "cultural programs" by night. Is it 1997 all over again? Are memories so short? Is once-a-generation not enough? Or this time, is it different?

For the past five years I have lived a life curiously in synchrony with the gyrations of the Russian financial sector—being thus treated to more episodes of elation and despair than many men know in a lifetime.

When, at last, in 1997 I arrived to live in Moscow after peddling Russian debt from Paris, President Boris Yeltsin suddenly appeared to have feet of clay. Government was arbitrary, chaotic, unimaginably corrupt. Ruble "stability" made Moscow more expensive than London or Osaka. There was nary a Russian-manufactured product to be found, and the government was merrily funding a gaping budget deficit by rolling over debt at 35 percent per annum (briefly reaching 150 percent eight months later).

While the foreigners were giddy, the Russians seemed skeptical: Was the national anima so gloomy that they could not recognize a good thing, or did they simply know something we didn't? Reluctantly I opted for the later, awaiting impending doom with gallows humor and vodka. By the time the crash came, I was in Asia.

Returning to Moscow to take over an orphaned fixed-income desk in September 1998, I encountered a rapidly changing country. On the one hand, the default could hardly have been handled worse — foreign investors were needlessly antagonized, markets ceased functioning, the currency shed 70 percent of its value. Yet, on the street, gone was the wretched excess, the fast money, the party on the edge of the apocalypse. Within a few months there was a swelling budget surplus, GDP was growing (for the first time since the '60s), and the trade surplus was ballooning as Russia started producing what it consumed.

In the aftermath of the crash it was taken as a sign of madness to remain employed in Russian financial markets. Alongside a few other madmen, notably Goldman's Al Breech, I compounded this folly by rating Russian debt as the buying opportunity of the century.

Almost three years after the 1998 crash, Russian fixed income has surged by more than 400 percent, far and away the world's best-performing debt index. This year, Russia is also the world's top equity market, rising some 60 percent against a backdrop of bearish global markets. By comparison with the first "bubble-phase," last year Russia ran an unheard-of 8.7 percent primary budget surplus, a $61 billion trade surplus, and is currently increasing reserves by an average of $400 million per week despite paying down onerous foreign debts. Notwithstanding the pessimism at the beginning of 2001, growth is once again beating expectations and will probably top 5 percent as domestic demand continues to strengthen.

Yet the numbers do not fully convey the underlying reality. If under Yeltsin the situation was always "grave," it was never really "serious." Putin, on the other hand, it is unarguably "serious." Initially seen in the West as some inscrutable Slavic sphinx, he is, in fact, proving a most predictable and consistent leader, overwhelmingly popular yet driving more real reform than any Russian politician since Pyotr Stolypin. Virtually everything that Russian strategists have called for over the past decade — reform of natural monopolies, of tariffs, the customs and tax codes, corporate governance, barter payments, budgetary discipline — has been, or is being, addressed. The judiciary and military are being reformed while at least some attempt is being made to curb rampant corruption.

Fears of a new wave of Soviet-style repression have proven nonsensical — one oligarch has indeed seen his tame TV station wrenched from his grip, only to be handed over to another bunch of scoundrels. Yet Moscow, at least, has no shortage of critical press, and more significantly, Russians travel freely, surf the net and write and speak as they please. Russia is becoming more boringly predictable, less absurd, less fun, as she slowly matures into a European democracy with a non-totalitarian opposition and the beginnings of a civil society.

Have I thrown all caution to the winds? No, there are worrisome signs. Russia's officialdom still preys upon its people, and Putin has done little to instill a "civil-servant" mentality. The reform process remains far too dependent upon one man.

Due to structural inflation and massive dollar inflows, the real ruble exchange rate is rising, imperiling medium-term growth. The banking system remains unreformed and almost totally nonfunctional, and although energy exports now comprise less than 50 percent of total exports, sensitivity to oil prices remains excessive. While the foreign debt burden is sustainable, the refusal of the Paris Club to accept the same burden-sharing it demands of private investors means that vital capital is being exported to service Soviet-era debt. With the global economy looking increasingly weak, Russia's ability to swim against the tide remains unproven.

Could the upturn then be just another bubble? I think not. Unlike in 1997, perception is, if anything, currently lagging the underlying reality. Businesses are being restructured, investment time-horizons are growing far longer, and — most essentially — both property rights and medium-term political and economic stability seem assured. Russia still has enormous resources, mineral as well as human, and the restructuring of the economy will itself generate substantial growth. Reforms are becoming irreversible as a middle class develops and western business practices are adopted. After a false start, Russia may at last be breaking free of the shackles of her history.

Eric Kraus is Chief Strategist for Nikoil Capital Markets in Moscow. He contributed this comment to The Moscow Times.