Investment opportunities for German banks and insurances in Russia

Table of contents

Preposition

List of illustrations

List of Abbreviations

1. Russia as a target for investment

2. Stability and development of the Russian economy

3. Positioning Russia in international country ratings

4. Foreign investments in Russia

5. The Russian banking system

6. Foreign banks and in the Russian market

7. Merger and Acquisition (M&A) activities in the Russian financial sector

8. Real estate investments in Russia

9. The Russian insurance market

10. Assessment of Russia as an investment target and her future prospects

Bibliography

List of websites

Declaration of academic integrity

Preposition

In the course of the creation of this special research paper, it turned out that almost no literature connected to the topic was available in print at the university libraries of the Stuttgart region. Therefore I retrieved some of the information from a service called Books 24x7 which is an online service that specializes in the delivery of business and IT information to corporate costumers. Unfortunately the books that are accessible through this service do not come with page numbers. Therefore I marked all relevant information with so-called chapters. Regarding the rules of format and citation, I referred to the official format and citation rules for scientific papers by Dipl. oec. Stefan R. Berkau which are accessible at the VWA website.

List of illustrations

Table 1: Country Ratings by Rating Agencies

Graph 1: Russia’s Position in the BCI/GCI Matrix

Graph 2: FDI Confidence Index Rankings

Table 2: Rankings of Banks in Russia

Graph 3: Dynamics of M&A market in Russia

Graph 4: Dynamics of PE deals in Russia 2003 - H1 2006

Table 3: Structure of Russian Insurance Expenditure

List of Abbreviations

Abbildung in dieser Leseprobe nicht enthalten

1. Russia as a target for investment

From a German point of view, an emerging market would be one to which a previously untapped potential for German exports or investment might be anticipated. Emerging-market business has been taken seriously by investors since the early 1990s. By 1993, emerging- market funds returned average gains of 72.13%. In 1994 the U.S. Department of Commerce identified ten nations as Big Emerging Markets: The Chinese Economic Area, Indonesia, India, South Korea, Mexico, Argentina, Brazil, South Africa, and Turkey. In the beginning of the new millennium, however, the importance of Russia as an investment target has grown significantly. In 2006 Russia attracted more foreign direct investment (FDI) than Turkey and Brazil and is therefore treated as one of the most important emerging markets of the present time (Victor, 2000). In spite of the good numbers, the Russian market still carries the image of being insecure to invest in. Jones, Fallon & Golov (2000) point out that Russia has been relatively unsuccessful during the 1990s in attracting FDI, as compared with her fellow transitional economies in Central and Eastern Europe. The volume of FDI inflows and the net benefits derived from FDI entering Russia were limited by infrastructural factors and government policies. According to Jones, Fallon & Golov (2000, p.3) Russia's prospects of quickly improving on her poor FDI record were not encouraging seven years ago. Jones, Fallon & Golov (2000, p.4) suggest that Russia's ability to attract more FDI in future would be constrained by national ambivalence towards the benefits of FDI, as well as political and economic factors.

Conversely, from Terterov’s (2005, Chapter 1.2) point of view a lot of change has taken place in Russia during the last decade. After two economic crises since the collapse of the Soviet Union and the last crunch of the Russian financial market in 2004 the sentiment in Russia and towards Russians is changing. The chaotic business practises of the Russian market during the 1990s seem to come to an end as the economy is maturing and aiming at a sustainable growth of development and well-being. In a meeting with President George W. Bush, Putin ensured Russia’s accession to the World Trade Organisation (WTO). According to the Bundesagentur für Außenwirtschaft (2006a), Russia is about to join the WTO by the end of 2007 respectively in the beginning of 2008. The WTO accession is vital for Russia’s further economic development, since the country loses $2.5 billion annually by not having access to the trade privileges granted to WTO members (Terterov, 2005, Chapter 1.5).

Traditionally the economical and political relationships between Russia and Germany have been very good. German business and industry, such as mechanical engineering, the automotive industry and the banking sector have gained advantages from the strong growth of the Russian economy during recent years. Russia has been a reliable partner in supplying Germany with energy and participating in technological, economical and cultural exchange. Next to the WTO accession, several reforms and efforts to make the Russian economy more transparent are on their way. Co-operations between German and Russian banks are growing into partnerships of mutual trust. Yet, in comparison to their foreign competitors, German banks and insurances have been reluctant to enter the Russian market in the past. Only recently German banks and insurances have begun to consider big investments in the Russian financial services sector (Bundesagentur für Außenwirtschaft, 2006b). This paper explores the investment opportunities for the German banks and insurances in Russia. Moreover this paper examines and assesses the correctness of the above future prospects made by Jones, Fallon & Golov (2000) about the Russia’s ability to attract more FDI in the future and whether those prospects apply to the Russian financial services sector (RFSS).

2. Stability and development of the Russian economy

The Russian economy is highly dependent on the volatile prices of energy. In 2005 Russia had $ 175.7 billion in financial reserves (compared to $ 6 billion in 1998) thus securing the balance-of-payments against weaknesses in the short -and medium run. Even if the oil price may drop dramatically, those reserves are sufficient to keep up debt payments for several years. Within only two years, Russia's foreign debt declined from 30.2% of GDP in 2003 to 14.2% of GDP in 2005 (Statistisches Bundesamt, 2006, p.5). In 2004 the government created a stabilization fund which is fed by revenues from oil and gas exports during periods of high energy prices. The stabilization fund aims at securing against possible future budget deficits in times of low energy prices. The Russian stabilization fund had accumulated $9.2 billion in 2005 (Terterov, 2005, Chapter 1.5).

In 2005 Russia had a budget surplus of $9.8 billion with 59 % of revenues coming from taxes and 34% from customs (Terterov, 2005, Chapter 1.5). In 2005 inflation measured 12.7% which is relatively low in comparison to the very high 85.7% in 1999. The General domestic product (GDP) constantly grew more than 6% during the last decade and reached 6.4% in 2005. The GDP amounted to $763.6 billion in 2005. With 60.1% share of the GDP, the service sector is dominant in the Russian economy. The average tax quote was relatively low with 13.2 % in 2004. The exchange rate for the Russian Rouble (R) has stayed stable during the last three years. In 2005 R35.1884 could buy €1 and R28.2844 could be exchanged for $1 (Statistisches Bundesamt, 2006, p.3).

A continuing problem of the Russian economy is capital flight. Although there was a net inflow in 2003, the finance ministry of Russia estimated a net capital outflow of $8.5 billion for 2004. The reason for such a high capital outflow in 2004 was due to an overall negative sentiment throughout the emerging markets and confusion about the Yukos affair. Nevertheless, investors remain interested in participating in joint work with other Russian oil companies, such as Lukoil. Moreover, Russia climbed up some steps in the Foreign Direct Investment Confidence Index as will be discussed in subsequent chapters. Another problem yet to solve is the so-called grey economy whose participants prefer to conduct their business apart from government supervision. The grey market economy in Russia is still quite high and may alter any statistics significantly if it could be recorded (Terterov, 2005, Chapter 1.5). Nonetheless, the main indicators of the Russian economy testify a permanent growth and a rather stable economic environment. As the predictions of experts continue to forecast high growth of the Russian economy and generally high returns on investments, Russia has become a target for foreign investors and an attractive place for investment (Financial.de, 2006).

3. Positioning Russia in international country ratings

In order to compare and assess the performance of a country’s economy, it is useful to analyse its position in international country ratings. The bonity risk of a state, also referred to as sovereign risk, tells about the probability of suspension of payment by a state. According to Kohler (2005) bonity risk takes into account political as well as macro-economical factors. Whereas many emerging markets are rated high-risk, the three most important rating agencies position Russia in the middle-field (Table 1). In Russia there are some risks of non-payment and there is insufficient protection against a changing economical environment (Kohler, 2005, p.61). However, the good budgetary situation created by a current account surplus is a remarkable achievement and should enable compensation and security in the short and medium run (Bayrische Landesbank, 2006, p.2).

Abbildung in dieser Leseprobe nicht enthalten

Table 1: Country Ratings by Rating Agencies (Source: Kohler, 2005, p.63)

The Global Competitive Report (GCR) published by the World Economic Forum measures the competitiveness of a country by its ability to use its resources in such a way that a sustainable development of the economy and an increase in prosperity are created (Kohler, 2005, p.62). The GCR is made up of two indices, the Growth Competitiveness Index (GCI) and the Business Competitive Index (BCI). The GCI takes into account the Technology Index, the Macro-economical Environment and Public Institution Index. The BCI comprises of the Quality of Business Leadership Index and the Quality of the Micro-economical Business Environment Index. Russia's GCI rank is 70 and its BCI rank 61. Although Russia has made improvements in technology and macro-economy, high inflation and the inefficient banking system are responsible for the rather low GCI and BCI rankings. Russia scores extremely low in the Technology Index (rank 69) and public Institutions Index (rank 89). As can be seen in Graph 1, Russia's overall ranking in the GCR is rather low (Kohler, 2005, p.63).

Abbildung in dieser Leseprobe nicht enthalten

Graph 1: Russia’s Position in the BCI/GCI Matrix (Source: Kohler, 2005, p.64)

The Corruption Perception Index (CPI) is comprised of up to 18 different studies by 13 independent institutions. In the CPI corruption is defined as the exploitation of public institutions in order to reach ones goals. The CPI measures the corruption experienced with politicians and/or public institutions (Kohler, 2005, p.65). In comparison to other emerging markets such as India (rank 74) and China (rank 72), Russia ranks low (rank 127 out of 146 countries) on the CPI (Transparency International, 2006, p.3). There has been a slightly positive trend during the last years due to president Putin’s anti-corruption policy. Increases in salaries for Russian state officials have been implemented in order to provide a level of income sufficient enough to maintain a living without taking bribes. Although the compensation increase is a first step into the right direction, the salary levels for government employees stay below the corporate sector. Government officials who were engaged in corruption in the past are not hindered from doing so again. Moreover, an anticorruption committee was formed. This committee aims at creating effective legislature to improve honesty and transparency of regulating and controlling bodies in Russia. For instance, a law to prevent authorities from halting any enterprise's operations without a court order has already been passed (Terterov, 2005, Chapter 1.5).

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