Central Europe & Russia Fund (CEE) Part 3 - A Matter Of Timing

Investment in CEE is a bet on the economic prospects of Russia, Poland, Turkey, Hungary, and the Czech Republic. For an understanding on how the allocation relate to valuations a look at the GDP growth projection, the overall market P/E ratios, and the Market-cap to GDP ratio of the countries concerned is required.











CountryProjected GDP GrowthProjected P/EMarket-Cap to GDP ratio
Russia71280
Poland71745
Turkey61240
Hungary311N/C
Czech Republic625N/C



GDP growth in Russia is projected to be in the 7% range, which makes it the leader in the countries under consideration. Poland, Turkey, and the Czech Republic also flaunt a projected GDP growth close to the 6-7% range, with Hungary coming in as the damper with a 3% projected growth. All these are less than the fast pace set by China (11%) and India (9%). On P/E ratio basis, Czech republic is richly valued at 25, while Poland shows fair valuation with 17. Russia, Turkey, and Hungary are undervalued with P/E between 11 & 12. Market-Cap to GDP ratio is considered a good measure for evaluating a country’s market as a whole. Note that anything above 100 is considered overvaluation. By this measure, both Poland and Turkey comes out as being undervalued while Russia shows up as being fairly valued.

Projected Distribution:

Historically the fund announces distributions in December. The mid-year realized gain (as per the investor update) stands at about $80M making the distribution on that portion to be likely in the $5.5/share range, conditional to no further trading in the last 4 months. Last year, the payout was $5.58/share and the payout for this year is expected to be similar with realized gains already in that range. The dividend distributions are also comparable to the year-ago period. This amount is well above 10% and can be labeled as a large payout. The fact sheet indicates that the first 2 months of the third quarter was relatively quiet for the fund with no sizeable change in the top-10 holdings. It is not easy to foresee the amount of trading (and thereby realized gain) that will happen in the last 4 months of the fiscal year. But, given that the fund manager has indicated a preference to move out of energy & metals into consumer sectors, it is likely to have more trades realizing further gains that will have to be distributed to shareholders in December.

The distribution is taxable to shareholders. As indicated in the mid-year investor update, last year's distribution was as follows: Ordinary Income: 0.58, Short-Term gain: 1.94, Long-Term gain: 2.99. Of these, the long-term gain is the most desirable type of distribution for shareholders because it is taxed at the relatively low long-term capital gains rates. For this year, the distribution ratio among the three classes should follow last year’s since the fund has held most of its energy and metal stocks for more than a year.

Risks:

Geopolitical risks, certain systemic factors, and reliance on growth in world economy are the major risk areas for stocks in the Russian & Central European markets.

The major geopolitical risk factor is the Russian election scheduled for March 9, 2008. Given the popularity of President Vladimir Putin within Russia and also that the political power base in Russia revolves around a few key people close to President Putin, it is likely for one of the Kremlin backed candidates to win the election in a landslide. Should this happen, the risk will largely turn out to be a non-event. Any other scenario can be categorized as a major political event with serious ramifications for the stock market. The political tension with the West is always a wild-card risk factor.

Low individual participation, increasing wages, liquidity issues, and poor governance form the major systemic risks in the area. Individual participation in the stock market is still in the single digits, which is very low. Until this situation changes, global perception of the area will remain the strongest predictor of the direction of the stock market. The increase in wages will be a damper to growth industries in the areas of Technology & Outsourcing. The rise in the local currencies against the US dollar is another risk factor. The liquidity problems include concentration of market capitalization in a handful of energy related businesses and low volumes outside of the top few stocks in the energy sector. Also, as a result of low stock market participation and the nascent state of the mutual fund industry, there is heavy reliance on foreign volume.
Oil and gas related businesses account for about 40% of the market capitalization of the stock markets in Central Europe & Russia. Metals and Timber related businesses account for another 10%. %. These businesses are big suppliers to the global market place and so rely heavily on global prices for these commodities. It is no surprise that a recession in the global economy will translate directly onto these markets. The reliance is more prominent for Russia, making the impact more pronounced on the Russian stock market than Central Europe.

Summary:

A new investor should pay attention to the Distribution effect and the Geopolitical factors. As the shareholders are inline for a large distribution in December, it makes sense to consider purchasing the fund after the distribution date to avoid taxes. Such an event will be especially painful for new investors: They did not get to participate in the funds gain in market value in the years prior to their purchase. But, since the fund is realizing sizeable gains this year by trading out of many of their holdings, current investors have to pay taxes on the gains the fund realizes. Further, Russia has elections coming up next March and the stock market is holding back due to the associated political risk. For this reason, a prudent investor could consider entering the position as the election outcome becomes clear.

For an investor who purchased the fund sometime this year, the unrealized return is roughly in the range from –10% to 10% depending on the timing of the purchase. Sitting tight is indeed the best option as the short-term risks and the distribution effect are not sizeable enough to justify exiting the position.

Lastly, for a long-term investor, the guiding criterion is the likelihood for out-performance in the future. Central European and Russian markets are still undervalued by most measures. As detailed above there are many risks, but the odds are low. So, there is no reason to consider exiting the position.

The fund has relatively low expense ratios, is one of the largest funds specializing in Central Europe & Russia, and maintains a low turnover ratio while also being aggressive about shifting allocations to growth areas as such opportunities arise. The stocks listed in the Central European & Russian markets are generally not available to US investors as they are not listed in the NYSE or Nasdaq markets. For this reason, funds that specialize in those markets are the best bet to participate in the growth in those areas and Central Europe & Russian Fund (CEE) is a good choice.

Central Europe & Russia Fund Analysis:
  1. Part 1 - Attractive Discount To NAV.
  2. Part 2 - Prudent Allocation Shifts.
  3. Part 3 - A Matter Of Timing.

No comments :

Labels

401k ( 15 ) Abad Turtle Beach ( 1 ) Abrams Capital Management ( 5 ) Acoustic Electric Guitars ( 1 ) Acoustic Guitars ( 1 ) ACT ( 1 ) Activist ( 4 ) Address Change ( 2 ) Advanced Placement ( 4 ) air asia ( 2 ) airlines ( 2 ) Akre Capital Management ( 18 ) Alex Roepers ( 5 ) AP ( 4 ) apartments ( 2 ) Appaloosa ( 15 ) ARIUS ( 1 ) Arlington Value Capital ( 3 ) Atlantic Investment Management ( 5 ) Ayemenem ( 1 ) Bangalore ( 3 ) Bangkok ( 2 ) Bannerghatta National Park ( 1 ) barbuda ( 2 ) Battery Park ( 1 ) Baupost ( 2 ) Baupost Group ( 17 ) bay area ( 2 ) BDCs ( 3 ) Benjamin Graham ( 2 ) Benjamin Graham Model ( 2 ) Berijam Lake ( 2 ) Berkshire Hathaway ( 32 ) best sites ( 9 ) Bill & Melinda Gates Foundation ( 20 ) Bill Ackman ( 19 ) Bill Gates ( 21 ) Blue Ridge Capital ( 16 ) Blum Capital Partners ( 12 ) books ( 4 ) Boone Pickens ( 2 ) BP Capital Management ( 2 ) Brave Warrior ( 3 ) Brave Warrior Advisors ( 12 ) british honduras ( 2 ) Bruce Berkowitz ( 19 ) Bruce Fund ( 18 ) Camcorders ( 3 ) canada ( 4 ) cancun ( 3 ) CANROYs ( 7 ) Cantillon ( 12 ) carl icahn ( 9 ) Carl Ichan ( 8 ) casino ( 3 ) Casio ( 2 ) CBRE ( 2 ) CEF ( 2 ) Charles Akre ( 15 ) Charlie Munger ( 20 ) Chase Coleman ( 16 ) Chou Associates ( 25 ) Christmas gifts ( 7 ) Christopher H. Browne ( 7 ) Chuck Akre ( 13 ) Cisco ( 2 ) Class Action Settlements ( 2 ) CLEP ( 1 ) Coatue Management ( 20 ) Cochin ( 2 ) coin collecting ( 266 ) collectibles ( 266 ) Consumer Product Reviews ( 29 ) cook islands ( 2 ) coonoor ( 2 ) Covered Calls ( 2 ) credai ( 4 ) Daily Journal ( 20 ) Dalal Street ( 8 ) Dan Loeb ( 10 ) DAT ( 1 ) David Abrams ( 5 ) David Einhorn ( 22 ) David Swensen ( 17 ) David Tepper ( 15 ) David Winters ( 15 ) DCF ( 2 ) Digital Piano ( 3 ) Dinakar Singh ( 20 ) Donald Yacktman ( 10 ) dry bulk shipping ( 2 ) Duquesne ( 25 ) Education ( 37 ) Edward Lampert ( 21 ) Egerton Capital ( 20 ) Egypt ( 3 ) Elementary Education ( 10 ) Elementary School Textbooks ( 5 ) eReaders ( 2 ) Eric Mindich ( 13 ) ESL Investments ( 14 ) ESPP ( 6 ) ETF ( 2 ) ETN ( 2 ) Eton Park ( 13 ) Everyday Musings ( 58 ) Exam Prep ( 7 ) Exiting the rat race - how to? ( 19 ) EXPLORE ( 1 ) Fair Value Estimates ( 4 ) Fairfax Financial ( 4 ) Fairfax Financial Holdings ( 14 ) Fairholme ( 19 ) Fairpointe ( 20 ) Family Office ( 8 ) FD Laddering ( 1 ) Financial Independence ( 93 ) Fisher Asset Management ( 10 ) Flash Camcorders ( 3 ) flat ( 4 ) flats ( 2 ) Flip ( 3 ) Francis Chou ( 25 ) free ( 17 ) frugal ( 3 ) Frugal Living ( 34 ) Fund Holdings ( 890 ) futures ( 2 ) FVE ( 2 ) gambling ( 3 ) garmin ( 2 ) Genting ( 2 ) george soros ( 22 ) giveaway ( 15 ) Glenn Greenberg ( 16 ) Glenview Capital ( 10 ) GMAT ( 1 ) Google ( 2 ) Gotham Asset Management ( 7 ) gps ( 5 ) GRE ( 1 ) Greenlight Capital ( 22 ) Guitars ( 3 ) Half Marathon ( 2 ) Hawaii ( 2 ) Hedge Funds ( 912 ) HELOC ( 1 ) High School Education ( 7 ) High School Textbooks ( 6 ) HOA ( 3 ) hobby ( 17 ) holiday shopping ( 7 ) Holidays ( 3 ) Holyland ( 11 ) Home Improvement ( 2 ) home ownership ( 5 ) Homes ( 18 ) Homeschool ( 18 ) Houses ( 2 ) Housing ( 3 ) Hykon ( 2 ) Ian Cumming ( 15 ) Icahn Enterprises ( 6 ) india real estate ( 5 ) Infinuvo ( 6 ) Insurance ( 2 ) invesco ( 17 ) investing strategies ( 2 ) Investment Portfolio ( 94 ) Investment Research ( 10 ) Investments ( 7 ) iRobot ( 5 ) Irving Kahn ( 10 ) israel ( 5 ) Jason Maynard ( 10 ) Jefferies ( 2 ) Jeffrey Bruce ( 20 ) Jeffrey Ubben ( 12 ) Jerusalem ( 2 ) Jim Chanos ( 20 ) Joel Greenblatt ( 7 ) John Armitage ( 20 ) John Griffin ( 16 ) John Paulson ( 17 ) Joho Capital ( 15 ) Jordan ( 3 ) Joseph Steinberg ( 9 ) Julian Robertson ( 4 ) Kahn Brothers ( 10 ) Kakkanad ( 4 ) Kanyakumari ( 2 ) Kawai ( 2 ) Ken Fisher ( 10 ) kerala real estate ( 5 ) Kids ( 49 ) Kids Yamaha ( 3 ) Kindle ( 2 ) kochi ( 8 ) Kodaikanal ( 2 ) Korg ( 2 ) Kraft ( 2 ) Kuala Lumpur ( 2 ) KWA ( 2 ) Kynikos ( 20 ) laptop ( 5 ) Larry Robbins ( 10 ) Las Vegas ( 2 ) Leon Cooperman ( 21 ) Leucadia ( 2 ) Leucadia National ( 13 ) Lone Pine Capital ( 9 ) long ( 6 ) long call ( 2 ) long puts ( 3 ) Lou Simpson ( 15 ) LSAT ( 1 ) Mahabalipuram ( 2 ) Malaysia ( 3 ) Marathon ( 2 ) Mark McGoldrick ( 10 ) Markel ( 20 ) Mason Hawkins ( 4 ) MCAT ( 1 ) Melinda Gates ( 13 ) memorabilia ( 266 ) MFP Investors ( 20 ) Michael Dell ( 22 ) Michael Price ( 20 ) Middle School Education ( 4 ) Middle School Textbooks ( 3 ) Mini Notebook ( 3 ) MODUS ( 1 ) Mohnish Pabrai ( 21 ) mortgage ( 2 ) Mount Kellett ( 10 ) MSD Capital ( 22 ) Music ( 6 ) Mutual Funds ( 5 ) mysore ( 2 ) Nelson Peltz ( 9 ) Netbook ( 4 ) Notebook ( 3 ) numismatics ( 266 ) O-Duster ( 1 ) Oahu ( 2 ) offers ( 2 ) Ole Andreas Halvorsen ( 10 ) Omega Advisors ( 21 ) online tax ( 4 ) ooty ( 2 ) Options ( 4 ) Pabrai Fund ( 17 ) passive income ( 7 ) pattaya ( 2 ) Paulson & Company ( 7 ) Paulson and Company ( 9 ) PEG ( 2 ) Pershing Square ( 19 ) Phil Fisher ( 5 ) philately ( 283 ) Philippe Laffont ( 20 ) Piano ( 9 ) PLAN Test ( 1 ) portfolio ( 4 ) Prem Watsa ( 17 ) product reviews ( 13 ) Property Taxes ( 2 ) PSAT ( 1 ) R2I ( 24 ) R2I Finances ( 3 ) R2I Housing ( 5 ) Raising Kids ( 41 ) Rat Race ( 15 ) RBS Partners ( 19 ) reading ( 5 ) real estate ( 6 ) Reducing Expenses ( 2 ) REIT ( 3 ) Retirement Portfolio ( 9 ) Reviews ( 81 ) Richard C. Blum ( 12 ) Robert Bruce ( 20 ) Robert Karr ( 15 ) Robotic Vacuum ( 4 ) Roland ( 2 ) Roomba ( 10 ) schooling ( 2 ) Sears ( 12 ) seeking alpha ( 2 ) Services - Reviews ( 33 ) Seth Klarman ( 19 ) Shipping ( 5 ) Shopping ( 3 ) short ( 5 ) short calls ( 2 ) short put ( 2 ) short puts ( 2 ) short selling ( 13 ) Ski ( 5 ) Sled ( 4 ) Solar Stocks ( 13 ) Soros Fund Management ( 14 ) Southeastern Asset Management ( 4 ) Southwest ( 2 ) spin-offs ( 2 ) SQ Advisors ( 15 ) stamp collecting ( 283 ) Stanley Druckenmiller ( 25 ) Statue of Liberty ( 2 ) Stephen Mandel ( 9 ) Stock Analysis ( 84 ) Stock Investments ( 4 ) Stock Portfolio Updates ( 6 ) stocks ( 3 ) summer ( 2 ) tax ( 6 ) TaxAct ( 3 ) TaxCut ( 1 ) Teacher's Editions ( 5 ) Technology ( 4 ) Test Prep ( 11 ) Thailand ( 3 ) Thekkady ( 2 ) theme park ( 2 ) Third Point ( 10 ) Thomas Gayner ( 20 ) Thyra Zerhusen ( 20 ) Tiger Cub ( 32 ) Tiger Global ( 17 ) Tiger Management ( 13 ) Time Square ( 2 ) TOEFL ( 1 ) TPG-Axon ( 20 ) Travel ( 278 ) Travel Reviews ( 82 ) Trian Fund Holdings ( 9 ) trip report ( 21 ) TurboTax ( 3 ) Tweedy Browne ( 10 ) Vacations ( 28 ) value investing ( 13 ) ValueAct ( 5 ) ValueAct Holdings ( 6 ) Vancouver ( 2 ) Video ( 3 ) Viking Global ( 10 ) Wallace Weitz ( 10 ) Warren Buffett ( 31 ) Wayanad ( 4 ) Weitz Investment Management ( 9 ) wilbur ross ( 17 ) William Von Mueffling ( 12 ) Wintergreen Advisors ( 15 ) Yacktman Asset Management ( 10 ) Yale Endowment ( 17 ) Yale University ( 7 ) Yamaha ( 7 ) YDP ( 1 ) YPG ( 1 )