Twenty years ago, there was a bullish idea behind putting Russia inside the emerging markets space. The country had a huge population and a big opportunity to play catch-up in its productivity, something that could afford it higher growth rates than other advanced economies.
Fast-forward to 2022.
After Russia’s invasion of Ukraine, formerly bullish models got demolished, and the country is now vanishing from global indexes and the ETFs linked to them. Earlier this month, major index providers FTSE Russell and MSCI announced the removal of Russian stocks from all their indexes. FTSE Russell said the decision was effective March 7, while MSCI said its decision was implemented as of the market close on March 9. MSCI also decided to reclassify the MSCI Russia Index, changing it from an emerging market to a stand-alone market.
That about-face has thrown ETFs with Russian securities into upheaval.
Since early March, trading in U.S.-listed ETFs such as the iShares MSCI Russia ETF (ERUS), the Franklin FTSE Russia ETF (FLRU), the VanEck Russia ETF (RSX) and the VanEck Small-Cap Russia ETF (RSXJ) have been suspended. The move was triggered by a combination of economic sanctions against Russian companies and the temporary closure of Russia’s stock market. Some funds, including the Direxion Daily Russia Bull 2X Shares fund (RUSL), were liquidated.
At the end of last year, the iShares fund had almost $560 million in assets, making it the largest single-country Russian ETF. Moreover, up until October 2021, it was effortlessly outperforming its emerging market peers inside the iShares MSCI Emerging Markets ETF (EEM), scoring a sizzling 30.17% gain while the broader emerging markets fund lost 2.17%.
Jim O’Neill, the former chairman of Goldman Sachs Asset Management and a former U.K. Treasury minister, came up with the bullish concept of the “BRICs,” a country basket that included Brazil, Russia, India and China, in 2001. But his theory never lived up to its promise, and in a recent post at the International Monetary Fund’s site, he backpedaled on the theory behind the acronym he coined.
“While India has notably disappointed in recent years, it is broadly developing along the path we envisioned,” he wrote. “For both Brazil and Russia, however, 2010-20 economic performance was very disappointing, which has occasionally led me to joke that perhaps I should have called the ‘BRICs’ the ‘ICs.’”
He argues that putting the “R” in the BRIC fraternity was more of an economic theory than an investment strategy. “What our analysis was not meant to show was that all these countries would persistently grow at their potential. That frankly is not realistic, and not what we intended as our message.”
Regardless of what he meant, enthusiastic asset managers turned his theory into investable yardsticks. But now that Russia has invaded Ukraine, those same yardsticks are looking to lose their “R” exposure.
One fund that lost its “R” was the iShares MSCI BRIC ETF (BKF), now called the iShares MSCI BIC ETF. Its equity exposure to Russia has been completely absorbed by the three remaining countries. As of March 18, China represented most of its equity position, taking 61.92%, while India now accounts for 26.89% and Brazil represents 11.08%.
What comes next?
“Most Russian companies trade as global depositary receipts (GDRs) on the London Stock Exchange, not as American depositary receipts (ADRs) in New York, and I think the delisting of GDRs will be the next shoe to drop,” said Dave Nadig of ETF Trends on the Trillions podcast.
If GDR delistings are ahead, liquidations of the remaining U.S.-listed Russian ETFs may not be far behind.