Motley Fool Hidden Gems Investing - Russia/China: What's Next?

Episode Date: March 17, 2022

Russia's stock market was supposed to open this week. Even if you don't own Russian stocks directly, you may own them through global funds or ETFs.  (0:20) Bill Mann discusses: - How Russia's market remained closed - Potential for Russia to default on its debt - The one thing every U.S. investor should do if they have exposure to Russian stocks - Chinese stocks suddenly rebounding on comments from the central government - Why he believes the turnaround is a "yellow flag" for investors Stocks discussed: YNDX, BABA, TCEHY, JD, BIDU Host: Chris Hill Guests: Bill Mann Engineer: Tim Sparks Learn more about your ad choices. Visit megaphone.fm/adchoices

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Because we have your number. Chris Hill. We've got a recommended course of action for anyone with exposure to the Russian stock market, and we've got a few thoughts on the latest turn of investing-related events in China. Motley Fool Money starts now. I'm Chris Hill, joined by Motley Fool Senior Analyst Bill Mann. Happy St. Patrick's Day. Bill Mann. Thank you, Chris. Can I just say from the outset that Rage Against the Machine was not specific about the type of machine they were so angry at, but I'm pretty sure it was a printer. That's what my day's been. I think I know I can identify with that. And I think

some of the dozens of listeners can identify with raging against. I was trying to print one page and I ended up printing 64 without noticing. So I need to finance my new set of ink. In the great scheme of things, not that big of a deal, but it's my cross to bear at the moment. Well, let's get to a much bigger deal and talk about Russia's economy. And we'll start with the stock market, because Russia's stock market was supposed to open this week, and best I can tell, did not. We will get to the overall economy and the potential for Russia defaulting on its debt in a little bit, but let's talk stocks first. What happened with the stock market, and where are we now? So, the Russian Central Bank

closed their stock market once Western sanctions were placed on Russia, which was, you don't want to give them too much credit. It was probably the right thing to do. Then on Saturday, they decided, we're not going to open up the market just yet. They decided to keep the market closed for another week. Now, it's important to note that this wasn't an exchange decision. This was made by the central bank, which is not really the type of meddling that you would see in the U.S., for example. The Federal Reserve does not have much power to tell the New York Stock Exchange or the NASDAQ, hey, hit the showers, take a day off, we'll see you tomorrow. Those types of things are done on much more independent basis. But

Russia is, in a lot of ways, a centrally managed economy. I don't own any Russian stocks directly. I'm guessing a good number of people listening don't either, although it is probably more possible that people might own through global funds that they own or ETFs. How worried should investors be about their exposure to Russian stocks right now? I think at this point, there's no real reason to worry because the damage has been done. Why worry now? It's finished. I actually have the pleasure, said in air quotes, of owning two Russian stocks individually, and that's not been a whole lot of fun. I think that what ultimately will happen, there's a lot of talk about having the Russian stocks

removed from the emerging and developing market indices. That'll be painful because these indices and the funds that track them will do that all at once. Now, I am, as a veteran value investor, I love the thought of going in and finding companies in areas that everybody else is selling. I don't think this is one of those situations. I think that Russia is in for a world of hurt for a very long time. It will be a long, long time before Russia is treated as a country in the normal sense as far as the financial markets go. This is not an area to weighed into. Eventually, the Russian stock market will open back up. I'm seeing now a lot of funds do something called fair valuing. For companies like Yandex, which last traded at $18 in the U.S.,

it's being fair valued at somewhere about $8 by these funds. That feels about right to me. There's a lot of talk now of the potential for Russian assets being frozen. Four of them? What's left? So, what is the ripple effect from that? Because you think, you know, we've been talking about the Russian stock market, and look, if you're an investor in Russia, the world of hurt that you referred to is hitting your investment account in very real ways that could last for a long time. In terms of ripple effects for other countries, what, if any, exists in terms of Russian assets

being frozen? Well, I think that obviously, when you talk about Russian assets being frozen, they are frozen somewhere. So, for example, the United Kingdom has been a prime repository for assets that have left Russia. The U.K. banking system has a huge amount of Russian assets. You also look at countries like China. If you look back over the last couple of weeks, one thing that has happened is that raw material and commodity prices have spiked, not just oil and gas, but also things like nickel. But also, the U.S. dollar has spiked against almost every other currency in the world. And that is really, really, really troubling for countries, again, like China, that are effectively short those commodities. So, yeah, when you freeze

a market like Russia's, you are not only creating pressure on Russia, you're creating pressure on anybody who has exposure to them. And so, we've seen it in the nickel market, we've seen it in the oil and gas market. I think we're going to see it in other places too. It's a great point because I think that for a lot of people watching the military situation play out in Ukraine, it is natural to want that to end as peacefully and as quickly as possible. I understand the thinking behind, we need to punish Russia, let's issue some sanctions, let's do what we can. But at some point, it's not just punishing Russian billionaires, it hits on the business level that, as you said, there are raw materials coming out of Russia that a lot of businesses,

including businesses in the United States of America, that they rely on. Yeah, exactly. Obviously, there's been a lot of pressure that's put on the Russian oligarchs. it's a very attractive way to go after the power structure in Russia. I don't know how effective that actually is because of the way that Vladimir Putin has allowed them to retain their wealth by specifically staying out of the political game. So, yeah, at some point, and I know this isn't an attractive thing to say. An off-ramp might be something that is going to help the situation for everyone going down the road, as opposed to some form of mutually assured financial destruction. The last time Russia defaulted on their debt, I believe, was 1998. And while it did not cause

a worldwide financial panic, it did send some ripples through other markets. If I'm reading stuff correctly, and I like to think that I am, there is a 30-day grace period that kicks in. So, if they can't make the payment on their debt, they have till mid-April to make good on that. Assuming that is the case and the grace period kicks in, then I guess the clock starts ticking until maybe April 15th. But I guess my question is, as an investor, how worried are you about Russia defaulting on their debt. So, actually, a better allegory to think about a Russian debt default in this case is actually 1917 than 1998, because in 1998- Okay, I wasn't around in 1917. Nor was I. Nor was I. So, let's just all put a pin in the fact that this has received wisdom.

In 1998, Russia defaulted on its domestic, its ruble-denominated debt. In this case, we're talking about $150 billion, and I think $117 million in dollar-denominated debt. That's what they have to pay, and they have to pay it with an absolutely defenestrated ruble at this point. So, the question is not just, can they pay, but what are they going to pay with? Because they can't pay in rubles, they are supposed to pay in dollars. So, that's the big question. Again, when you talk about, now about 80% of this debt is also held by Russians. Once again, there's your pain threshold, but 20% of it is held by pension funds, it's held by banks, it's held as collateral, it's held on their balance sheet. There are banks in Austria,

for example, and banks in the UK that have some really uncomfortable exposure and are really hoping to see those payments come through because nobody wants to see that clock start ticking. Realistically, and to the extent that there is a relatively simple explanation for this, what needs to happen between now and mid-April for the ruble to rebound, for Russia to be able to finance this debt in a way that makes maybe not everybody happy, but satisfied enough? Well, since we're talking about debt instruments, the people who own the debt have to be made happy, right? This isn't a compromise situation. You have either satisfied your debt or you are in breach. So, it's kind of as simple as that. A lot of your question

is a little bit above our pay grades because I don't know what's going to happen from here. But essentially, these debts have to be paid in full under the terms under which the debt was underwritten, or Russia and a bunch of Russian companies are going to be in default. And that will be, as they say, those will be interesting times. Before we move on, what are you watching now? Other than an end to the conflict in Ukraine, from an economic standpoint, what are you watching to give you a sense of where this story goes next? You know what? I think it's really it. How is the conflict going? Because when you're

talking about where does the pressure on Vladimir Putin come from, it's from the conflict. Because the other power center in Russia is the military. And they, if the news is to be believed, are having their heads handed to them. And ultimately, it comes down to that. It comes down to the negotiations, which we see pop up from time to time. Ultimately, that's it. How's it going there? Because that's the big pressure, that's the big gamble that he has taken. That's going to be the ultimate arbiter of how quickly and under what conditions the world moves on to its next phase. All right. Before I let you go, I want to circle back to the conversation we had on Tuesday, because we talked about Chinese stocks in the U.S., Alibaba, Tencent, JD.com,

Baidu, which at that point were all down 25% at least in the matter of just a few days. For very valid reasons, the SEC was threatening to delist some stocks, Wall Street firms were downgrading pretty much every Chinese stock out there. You'd made the comment at the time that the Chinese government was basically okay with this because they prefer their companies to list in Shanghai and Hong Kong. I'm wondering if regulators in the United States and China were actually listening to our episode on Tuesday, because in the last 36 hours, those stocks have bounced back up on the news reports that the U.S. and Chinese regulators are working on a plan to cooperate. China says it will support Chinese companies having IPOs abroad.

We've seen the stocks that I mentioned before bounce back up, and I'm wondering what you make of, in particular, the comments that have been made public from, I think it's the Vice Premier in China. I want to take a little bit of a step back because I want to put some frame around what we're talking about here. Because yes, that was pretty spectacular timing for us to have that conversation about Russia being a manipulated market and one that was dominated by the interests of the state. And for the state interests, only a few hours later for them to say, well, yeah, we're going to do more than you thought we were going to do. That still means that the market is manipulated. It was just manipulated in a little bit of a

different way than it had been over the previous, I don't know, call it 18 months. In the last seven years, the U.S. stock market, as measured by the NASDAQ, is up by 177%. Chris Hill, how much is the Chinese stock market up over the last seven years? I'm going to take the under. Minus 3%. Wow. I was just thinking under 177%. Minus 3%. Cumulative. You can annualize that, but it comes out to your money has sat absolutely positively. All you've had is opportunity costs go out the door. I think that the thing to keep in mind is that when they're talking about delisting Chinese stocks in the U.S. market,

it doesn't necessarily mean, and it does not mean at all that they're going to be delisted and you don't own anything anymore. It just means that they're going to be much more difficult to trade. Certain brokers in the U.S. have access to the Hong Kong market, which is the most likely location they would go. And I think that the Chinese government was pretty smart to come out and say, look, it's not going to be as bad as all this. But for Americans who do not have access to a market that trades in Hong Kong, that does not mean that they're not going to end up having some difficulty trading these stocks. The tension that we talked about the other day, the fact that the Chinese law does not allow its auditors to be accountable to outside,

to foreign regulators, that hasn't changed. Until that changes, I would say that at best, there is a yellow light over all of the Chinese ADRs that are listed in the United States. For people who have either directly in the stock itself or through a mutual fund or ETF, is this one of those situations where you want to contact whichever brokerage you have your money with and say, hey, let me run a scenario by you. Let's just say this happens. What are my options? It seems like one of those good times. I absolutely would. And I would say that the brokers that, in my experience, are most prepared to handle this are Fidelity, Schwab, and Interactive Brokers. If it's a mutual fund you're talking about, don't worry at all. The

mutual funds have plenty of ability to trade overseas. If you aren't with one of those brokers, it is, in fact, worth a call. You're just scenario planning with them. I wish that we could give an omnibus answer here. We can't because every broker has a little bit of a different access, a little bit of a different rules. And I would say, call them up, ask for the international desk and just ask, what is going to happen if the Chinese ADRs are delisted with my funds in this brokerage? And get an answer for them. I think that that's good advice. Great idea that you came up with. You and I were chatting earlier, and I mentioned, among other things, I think it's always helpful for particularly U.S. investors to remember the speed with which the Chinese

government moves is much, much faster than the speed with which the United States government moves. The SEC regulations that I referred to earlier, that was something that took years to enact into law. That took then, I believe, another 18 months of the SEC working with these companies before they finally got to the point where they said, hey, it's official warning time, as opposed to the Chinese government in a single statement says, oh, okay, we'll just make this work. Yeah. So I have a friend who is an old Chinese hand and he's lived in China for four decades now. And I asked him one time, what was the thing that he still did not understand about China? And he said, it is still completely opaque how decisions get made at almost every level.

But here's what's true about China. They go through the process every five years of building a five-year plan, and it's around a central conflict. And there is a whole lot of discussion about what that struggle is. But once that struggle is identified, then the decisions that come after it seem to be made very quickly. They are either in support of that central struggle, or they are in a little bit of conflict with the central struggle. So once you've got that position defined, decisions that come after that can be made pretty quickly. It is also, I guess you could say, nice not to have to ask anybody else what their opinion is about the topic. Maybe I'm glorifying an autocratic system a little too much, but it is the case.

Newsflash, Bill Mann hates democracy. No, no, no, no. But there is certainly, if you don't have to ask the populace what their opinion is, decisions can be made much, much faster. I really appreciate you talking through all this. Thanks for being here. Thanks, Chris. As always, people on the program may have interests in the stocks they talk about, and The Motley Fool may have formal recommendations for or against them, so don't buy or sell stocks based solely on what you hear. I'm Chris Hill, thanks for listening, we'll see you tomorrow. Thanks for watching!