Strategy Note /

Romania: Populism to persist, reflected in cheap equities

    Hasnain Malik
    Hasnain Malik

    Strategy & Head of Equity Research

    Tellimer Research
    7 April 2019
    Published byTellimer Research

    After our trip to Bucharest last week, we view Romania-specific macroeconomic risks, while moderate by Frontier standards, as skewed to the downside. Economic populism and ad hoc policy decisions likely persist until, at least, the completion of elections over the next 18-24 months.

    The dilution of the draconian ad hoc tax on banks (part of Government Emergency Ordinance 114 from December 2018) prompted an equity rally. A softening of GEO 114 in other sectors is possible and would provide another catalyst, but there is no visibility on this. MSCI Romania (the five most liquid stocks) is 5% below its median 5-year PB valuation. TLV and BRD, in banks, and SNP, in oil & gas, screen well for value. For those comfortable with very low liquidity, MedLife (healthcare) and Purcari (wine) offer high growth. 

    Romania should account for 9% of the MSCI FM index once Argentina and Kuwait move to EM. But liquidity (US$9m ADV in the last six months) shows little sign of picking up, with local pension funds acting as long-term holders of most of the free float. There are no major imminent privatisations, and stock exchange enhancements, such as derivatives, are in their infancy.

    We are cautious on Romania's fundamental outlook

    (1) Populist and ad hoc economic policy – The Social Democrat Party (PSD) led by Liviu Dragnea, has pursed economic policies focused on populist gain (wage and pension hikes, tax cuts) rather than structural reform (tax collection, logistics, skills, state enterprises). Policy is also becoming more ad hoc and unpredictable with the use of emergency ordinances (e.g. GEO 114) to establish quasi-bargaining positions with the private sector. Growth, inflation, fiscal and current account metrics are all worse now than in 2015, prior to the last Parliamentary election. Although the drop in unemployment is positive, it is also likely to exacerbate tight labour, further eroding wage competitiveness with CEE and former CIS peers. 

    (2) Sub-optimal policy-setting to persist – In the short term, with the next Parliamentary election due by March 2021 we do not expect populist economic policy to change. After all, structural reforms are usually politically easier near the start, not the end, of a term. In the medium term, the historic dominance of the PSD, the resilience of Dragnea and divisions within the opposition mean a major upheaval in organised politics would be needed to see a stable, unified, market-friendly coalition emerge after the election. In the long-term, Romania’s importance to the EU and the US, as a geopolitical buffer to Russia in the Black Sea region, may mean that while this provides financial support and trade access, it also leads to moral hazard in and capture by a narrow range of (anti-reform) vested interests of policy. 

    Equity valuation still cheap, more GEO 114 dilution a catalyst 

    The recent dilution of a draconian tax on banks, embedded in GEO 114, has led to a rally in equities. Many of the damaging measures on energy, oil & gas, and private pensions remain. But these might be diluted (or mitigated) too, following the precedent in banks. This would provide another positive catalyst for equities, but there is no visibility on timing. Trailing PB of MSCI Romania is still 5% below its 5-year median. While that is not compelling value given that policy populism likely persists (quite apart from generic risks related to global risk appetite, EU growth and cohesion or US-Russia conflict) valuation downside is limited, with dividend yields greater than likely FX rate risk (worsening CAD, import cover offset by low REER, external debt).  

    Romania is c5% of the MSCI FM index and will soon nearly double 

    Romania sits between Bahrain and Nigeria, in terms of FM index weight. After the upgrade of current FM heavyweights – Argentina in 2019 and Kuwait likely in 2020 – the weight of Romania should increase to nearer 9%. After those changes, Banca Transilvania (TLV) could enjoy a weight of over 3% (similar to stocks like Attijariwafa in Morocco, Square in Bangladesh and Guaranty Trust in Nigeria). In other words, for frontier and small emerging market-focused investors, Romania is no longer a market they can ignore. Romania is cheap and it is certainly a more attractively valued play on the EU than Morocco. 

    That said, it would not rank as one of our favourite frontier and small emerging markets. It does not offer the growth of Bangladesh and Vietnam, the deep value of Nigeria and Oman or the transformation of Pakistan and Saudi.