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Shale gas unlikely to wipe sheen off Russian shares

By Igor Alexeev  Posted by Igor Alexeev (about the submitter)       (Page 1 of 1 pages)   2 comments
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While most Asian equity markets have been rallying recently, they are no longer under-valued. But Russia is one market that has remained largely flat of late and is presently trading at very cheap levels.

In fact, at a compelling approximate average Price-to-Earnings ratio of 6, Russia is presently trading at a 50-percent discount to the emerging market average of 12. Russia, unlike most of Europe, does not have any sovereign debt problem. Also, many of its major corporations from the energy sector to banks are quite prudently managed in terms of debt exposure and rather cash-rich by global standards.

So why is Russia so cheap? There are two major reasons. The first is the biased coverage it gets from Western media that appears to have been unfairly projected at Russian companies as well.

The other is the growing concern about shale gas -- natural gas trapped in rock formations that is gained through a process known as fracking -- is potentially threatening Russia's traditional stronghold in the natural-gas market. It is true that discovery of shale gas in the United States has been a huge boon for consumers, sharply increasing the supply of natural gas and thereby depressing prices.

But already there are reports of rapid decline rates at wells along with the need for fast turnover of locations needed to maintain production. In addition, there are major environmental concerns as the fracking process -- needed to extract shale gas -- involves large amounts of water mixed with various chemicals being pumped into the ground at high pressure to release the gas.

China is believed to be the holder of the world's largest reserves of shale gas. According to the official shale-gas-development plan, the mainland's shale-gas output is expected to reach 100 billion cubic meters by 2020. But pitfalls remain. China already suffers from water-scarcity, especially in areas that appear to have the most shale-gas potential, such as the Xinjiang Uygur autonomous region.

Large quantities of water are needed for extraction of shale gas. Moreover, a significant amount of potential shale resources in China is located in mountainous area. The gas is found at low depths, making large-scale drilling and related infrastructure development challenging.

Nevertheless, it seems likely that China will succeed in extracting significant amounts of shale gas. But production may not be as easy and as cheap as initially expected. At the same time, the nation's gas needs are soaring.

Shale-gas resources are unlikely to keep pace with domestic demand.

Furthermore, demand from South Korea, Japan, and Germany is growing as well, with the latter two countries facing calls for reducing or phasing out altogether their nuclear-energy programs.

Hence, even with shale-gas developments in China, Russian natural gas is still likely to remain a major market player, if not a significantly more important one.

Accordingly, current Russian equity valuations appear to be lower than justified. Perhaps, Russia will soon draw positive attention as the host of the 2014 Winter Olympic Games and the 2018 World Cup.

Both may trigger shares on the Moscow bourse to rise and carry more reasonable valuations.

by Martin W. Hennecke

Martin W. Hennecke is associate director, Tyche Group, an independent financial advisory firm

Originally published in The Standard (Hong Kong)

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Russian web journalist and researcher in the fields of global economy and energy policy. Route Magazine ( editor and columnist.
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