Equity markets in central and eastern Europe are bracing themselves for a bumpy year ahead
The nascent stock markets of eastern and central Europe have demonstrated at least one thing this year: they are anything but immune to global financial turmoil.
The Prague Stock Exchange had the worst start in its 15-year history when it fell 3% in the first three days of 2008. In mid-May it is trading 12% lower than last November’s high. And fears over Romania’s current account deficit have sent the Bucharest stock exchange down by 20% on occasion.
Only Poland and Hungary’s stock markets have weathered the storm, having largely recovered their losses after taking a hit at the start of the year.
The prospects still don’t look too good. “The risk-return relationship for equities appears to be too unattractive over the short term,” says Gerhard Winzer, head of research at Raiffeisen International. “In our portfolio, we leave the neutral weighting on equities/bonds and remain overweight on Eurobonds versus local currency bonds. The high level of uncertainty is the reason for taking a cautious position.”
Nevertheless, Polish satellite television operator Cyfrowy Polsat launched a $375 million IPO (initial public offering) at the end of April. “Poland had a difficult January, but then the markets started stabilizing in February and March,” says Hans Sternby, director of CEE equity capital markets at UBS and bookrunner on the deal. “There was always a concern that investors would be scared off, but international accounts had a big appetite for the issue.”
While bad news from developed markets has induced short-term volatility, participants say equity investors should remain committed for the long term. “Equity markets have come down significantly in the region, but at the same time economic growth is still fast paced,” says Charles Lucas, head of CEEMEA equity capital markets at ABN Amro.
In particular, analysts recommend banking stocks in under-penetrated south-eastern Europe including Albania, Bosnia and Herzegovina, Bulgaria, Croatia, Montenegro, Romania and Serbia. They expect overall growth rates for regional banks to outpace developed bank stocks.
Due to this catch-up potential, deposit-growth will easily pay for high short-term funding costs, Lucas says.
Although closer EU ties are nurturing a more secure legal and political environment, bankers do not anticipate a wave of IPOs from the region over the medium term. The accession of Cyprus, the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia and Slovenia to the EU in May 2004 resulted in only a modest increase in equity capital market activity. It is similar too for Romania and Bulgaria, which joined in January 2007.
That said, the Warsaw Stock Exchange has bucked this trend. Since 2004, annual share trading turnover has increased four-fold to Zl480 billion ($219 billion) by 2007, while there were 175 new listings over the same period. This expansion has been propelled by the growth of large Polish pension funds that are limited in their choice of investments – by law they can invest only 5% of their money abroad. “There is hope other stock markets in the region will grow as the universe of domestic pension and investment funds gradually expands,” says Sternby.
But bar Poland, the willingness of companies to list publicly and the availability of capital did not suddenly change upon accession, while small economies limit the size of an equity market. “The level of activity in the Baltics and Balkans was always going to be sporadic as the economies are not that large, and the companies are generally fairly small,” says Lucas.
Others say a greater cultural shift will eventually drive new listings in the region as business owners reconcile themselves to outside ownership and opt to expose their companies to financial markets. “It is a big decision to launch an IPO,” says UBS’ Sternby. “You need to make a decision whether you want to cede some ownership or wait as the company grows organically and then choose the specific size of the deal and the right time. So there is a delay.”
There are limited opportunities outside Poland, Russia and the CIS for CEEMEA bankers and investors. “The number of companies that could come to the market is not that many, and it’s mainly the telecom and financial sectors,” says one banker in London.
Dariusz Sliwinski, emerging markets fund manager at Martin Currie, says: “In the Czech Republic and Hungary, for example, there is nothing to buy because the liquidity is so poor.”
Privatization plans
After several years of EU membership, market participants expect stalled privatization programmes to take off in the next two years. “This process always takes longer than one thinks; it involves a political process, and this has previously been affected by changes in government,” says one banker.
In Poland, the new free-market orientated administration is expected to jump-start a privatization programme with a $1 billion IPO of energy firm ENEA scheduled for later this spring. In addition, fellow energy company Polska Grupa Energetyczna (PGE) is planning a $1.5 billion IPO while Bank Gospodarki Zywnosciowej (BGZ) is considering a listing later this year, with the government expected to sell its 37% stake.
But bankers say they expect to make little money in fees for new Polish listings this year since “much has already been privatized,” says Lucas, while foreign investors are crowded out by the “domestic bid that is driven by investments from pension funds”.
Hungary, Serbia and Romania have similar ambitions to privatize assets through public sales over the next two years. Yet given the unstable political conditions in these countries, new listings may be delayed while any hurried sales could risk a domestic backlash.
Nevertheless, while foreign investors may opt for more liquid stocks in oil-rich Russia and the CIS, equity markets in eastern Europe look set to increase over the next few years, on the back of an ever-strengthening domestic bid.