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September 2007. Russia & CIS Equity Fund Structuring a Shari’ah-compliant product. Rinat Gainoulline, Equity Analyst. Contents. Regional Overview Global macro backdrop and the region The main markets: Russia, Kazakhstan, Ukraine The Fund Research Team, Style & Process

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September 2007

Russia & CIS Equity Fund Structuring a Shari’ah-compliant product

Rinat Gainoulline,Equity Analyst

  • Regional Overview
    • Global macro backdrop and the region
    • The main markets: Russia, Kazakhstan, Ukraine
  • The Fund
    • Research Team, Style & Process
    • Shari’ah Investing Process
    • Example of Gazprom


asset allocation decision the key drivers
Asset allocation decision—the key drivers
  • Strong local growth across the region
  • Region geared to global resources
  • Political stability
  • Reforms and restructuring
  • Development of local markets
the china effect
The China Effect

China has overtaken OECD as prime mover for commodities.

Russia & CIS regions will be large beneficiaries of this trend!

the china effect cont d
The China Effect (Cont’d)

China forecast to account for 30%+ of world commodity demand by 2010

the main markets
The Main Markets
  • Russia
  • Kazakhstan
  • Ukraine
russia is the main focus
Russia is the main focus
  • Population of 144 mln and the fastest growth rate in disposable income in Europe over the past six years--2007 is expected to see the ninth consecutive year of real GDP growth.
  • Fastest growing consumer/services market in Europe.
  • Stable currency since early 2000 – Ruble is now fully convertible.
  • Politically stable since early 2000 (“smooth transfer of power expected in March 2008).
  • Best performing “open” stock market since 1999 – outperforming the GEM average every year except in 2004.
  • $15 bln raised at international IPOs in 2006 – projected to be at least $30 bln in 2007 ($9 bln already raised by Sberbank in February).
russia capital markets reform is ongoing
Russia: Capital Markets Reform is Ongoing
  • Companies must now have a local listing before they may have an ADR issue. ADR issuance is restricted to 35% of the issued equity.
  • Local bourses account for about 70% of average daily activity in Russian shares.
  • Mutual fund investment is steadily growing – boosted by rising disposable income and stability in the Ruble.
  • Reform of the pension funding system is one of the key financial reforms proposed by the government. A substantial amount of local and stable investment liquidity in the future!
  • Market reforms, including legislation governing the operation of the market and conduct of investors, are continuing.
russia structure of equity market
Russia: Structure of Equity Market

Largest equities**

Gazprom $253 bln

Rosneft $91 bln

Sberbank $82 bln

LUKoil $66 bln

Unified Energy (UES) $48 bln

Surgutneftegaz $45 bln

Norilsk Nickel(Metals) $43 bln

Vimpelcom (Telecoms) $28 bln

MTS (Telecoms) $26 bln

Novolipetsk Steel $20 bln

Novatek (Gas) $16 bln

Sistema (Diversified) $15 bln

Sector weightings*

Oil & Gas 45%

Metals 12%

Financials 11%

Utilities 7%

Telecoms 4%

Consumer 2%

Other 19%

* As at close on Sep 17 2007. Source: Bloomberg,Alfa Bank Research

** As at close Sep 17 2007; Source: Bloomberg

kazakhstan solid macroeconomic environment
Kazakhstan: Solid Macroeconomic Environment
  • Second-largest economy in the CIS
  • Economic growth 9.4% in ’05 and 10.6% in ’06 outpaced Russia
  • Per capita income to reach $7,000 in ‘07
  • 2007 inflation forecast is 9.1%vs. GDP growth of 9.7%
  • International reserves/GDP ratio 43-64% in 2006-2010E
  • External government debt/GDP ratio eased to less than 4% in 2006 from 24% in 1999
  • First CIS country to receive investment grade rating from Fitch (October 2004)
  • Strong FDIs (~$15 bln per year in 2008-10) to containupside in current account deficit

Source: Bloomberg, Alfa Bank Research

Source: Bloomberg, Alfa Bank Research

kazakh equities market structure
Kazakh Equities: Market structure

Sector Weightings – Foreign Listings*

Metals 47%

Financials 26%

Oil & Gas 24%

Other 3%

Largest Equities MCAP*

Kazakhmys $12.0 bln

KazMunaiGas E&P $8.9 bln

TuranAlem Bank $6.1 bln Uranium One $5.7 bln

Halyk Bank $4.9 bln

Kazakommertsbank $3.9 bln

*Sector weightings and MCAP data at close September 17 2007Source: Bloomberg, Alfa Bank Research

Out of the total free float of $25.6 bln only on-fifth, or less than $5 bln is traded on a local bourse in Almaty

Whilst dominated by financial companies locally (45% of local MCAP), Kazakh equities listed in London, New York and Toronto provide the fund manager with plenty of opportunities to gain Kazakh exposure outside of the banking sector.

ukraine industrial growth to drive economy
Ukraine: Industrial Growth To Drive Economy

Key Economic Data 08/2007 YE 2007F

GDP, 6M07 to 6M06, % 7.9 6.6

Industrial output, 6M07 to 6M06 12.5 7.3

CPI, June y-o-y 10.1 7.6

PPI, June y-o-y 17.7 12.7

S&P rating BB- BB-

Moody’s rating B1 B1

Exchange Rates, $/UAH 5.1 5.1

EMBI+ Ukraine spread 142 132

Stock MCAP, $ bln 57 64

Source: Moody’s, S&P, Ukrainian State Statistics Committee, Alfa Bank Research

ukrainian equities market s tructure
Ukrainian Equities: Market Structure

Sector Weightings*

Metals 18%

Banking 15%

Power Utilities 10%

Oil and Gas 7%

Telecoms 6%

Pipes 5%

Iron ore & Coke 4%

Machinery 3%

Largest Equities MCAP** (Free Float)

Kryvorizhstal (Steel) $8.9 bln($224m)Ukrnafta (Oil) $4.1 bln ($328m)

Ukrtelecom $3.6 bln ($72m)

Mariupol Illich (Steel) $3.8 bln ($393m)

Azovstal (Steel) $3.3 bln ($76)

NITR (Steel pipes) $2.0 bln($271m)

Poltavsky GOK (Mining) $1.9bln ($20m)

** MCAP data at close Sep 17 2007

Source: Bloomberg, Alfa Bank Research

*Sector weightings at close June 22 2007Source: Bloomberg, Alfa Bank Research

the fund philosophy and approach
The Fund: Philosophy and Approach


Fund Strategy

“We believe in bottom-up stock picking, with a value bias for optimal risk protection and higher-than-average returns over time”

Equity long only

Absolute return

Zero leverage

“Assets are frequently mis-priced in less liquid emerging markets – With our experience, skills and contacts we can exploit these undervaluations”

stock picking some key criteria
Stock Picking: Some Key Criteria
  • Growth potential
    • Barriers to entry, competition
    • Sector issues
  • News Flow
    • New acquisitions, spin-offs
    • IPO’s and corporate actions
  • Valuations
    • DCF fair value—which assumptions?
    • Ratio analysis, comps with peers (PER, EV/EBITDA….)
    • Asset values (EV/bbl of 2p res)
    • Sum of parts
  • Managements track records
    • Share holder accountability
    • Leverage with government
  • Assets
    • How much investment is needed
    • Scale, ramp up potential
    • Real book value
  • Country risks
    • Clan relations
    • Politically stable
    • Taxes
shari ah process
Shari’ah Process
  • Core Principles
      • Islamic finance recognises capital as a factor of production but it does not allow the factor to make a prior or predetermined claim on the productive surplus in the form of interest
    • Founded on the “productive” use of money for community benefit
    • An “asset based” system where money is not a commodity in itself
    • Financiers are party to the underlying transaction
    • Transactions must be transparent with all details agreed in advance and ownership undisputed
    • Uncertainty, Risk or Speculation is prohibited

Source: Islamic Finance – A New Profit Opportunity, a joint proposal prepared by Islamic Finance Consultants E..C. (Bahrain) and Rinat Gainoulline, January 2004

shari ah process1
Shari’ah Process
  • Our team, specifically the work of Rinat Gainoulline, is a solid reference in Russia and CIS regions for Shari’ah investing
  • The process has been developed, refined, and back tested with a high degree of success
  • Shari’ah investing is also good risk control in emerging regions (operational leverage already strong—high levels of financial leverage are dangerous)
  • This product is a first in this large and fast growing region
fund strategy compliance
Fund Strategy & Compliance

The Alfa Bank local research team, together with an independent Shari’ah Advisory Board will offer investors peace of mind and the knowledge that their investments are in compliance with Shari’ah principles. They will work to establish guidelines for the fund manager as regards ideology of investing and operations of the Fund and to monitor compliance on an ongoing basis.

  • Preferred shares are seen as corporate debt from the Shari’ah perspective and as such are excluded from coverage
  • Day-trading, short-selling and other speculative operations based on profiteering from factors other than growth in real asset valuation are unacceptable and impermissible
  • Hedging techniques such as options are impermissible due to a high degree of uncertainty or Gharar involved
  • The fund’s cash position should be limited to a minimum required to either increase positions in acceptable stocks or pay redemption without the need to sell undervalued ones
screening stocks 1
Screening Stocks (1)

The vast majority of Shari’ah scholars are in agreement that investing in equities is allowed, provided the portfolio’s holdings pass certain screens designed to minimize un-Islamic activities to the greatest extent possible.

  • Some industries are completely excluded from coverage such as banking, insurance - financials in general - as dealing in Riba
  • Ensure Shari’ah compliance of each individual stock by using the respective sector and financial screens and to make regular updates of such compliance
  • Provide the fund manager with a 1 to 3 year compatibility outlook for the stocks covered by the equity research team based on proprietary forward- looking models
  • Ensure reliability and timeliness of corporate financial data to be used in the stock screens
  • Set proper accounting/dividend cleansing procedures as required
screening stocks 2
Screening Stocks (2)

The screens outlined below contained in research by Rinat Gainoulline and approvedby the Academic Committee of Al Rajhi Banking & Investment Corporation on November 2003. Overall, they are in line with AAOIFI current guidelines.

Sector screen – based on a list of industry groups as defined by the Dow Jones Global Industry Structure and FTSE Global Islamic Indices with further refinements. Eligible industrial sectors include: oil & gas, petro-chemicals, metals & mining, steel pipes, construction, cement, pulp and paper, fertilizers, automotive, engineering, utilities. Eligible consumer sectors include: pharmaceuticals, household chemicals, cosmetics, dairy products, juices, baby food, telecomsAlfa Bank Islamic Debt Filter – based on debt screens used by the Dow Jones Islamic Markets and FTSE Global Islamic Indices with some refinements (see next slide). Financial Debt ⁄ Owner’s Equity = No more than 33.33%.

Interest Income Filter - based on Saudi Arabia’s National Commercial Bank(NCB) methodology: Interest Income⁄Total operating revenue = Less than 5%.

Cash (Liquid Funds) Filter – based on Dow Jones Islamic Markets methodology: (Cash+Interest Bearing Securities) ⁄ 52-week Avg Market Capitalization = Less than 33%.

screening stocks 3
Screening Stocks (3)

How do stock screens work?

  • Financial screens are calculated based on actual and forecast data derived from financial models for a particular company and is updated by equity analysts on a regular basis. Market data whenever necessary is derived from Bloomberg or Reuters on a real time basis
  • Using financial estimates for each company covered allows the fund manager to adopt a pro-active approach by removing stocks before they exceed the limits set out by the financial ratios. This process also enables the portfolio manager to make longer-term decisions
screening stocks example of gazprom
Screening Stocks: Example of Gazprom*

*Using market prices at close September 17 2007, Source: Bloomberg, Alfa Bank Research

Sector screen PASSED

Alfa Bank debt filter


2nd debt filter


Cash filter PASSED

Unlawful investment filter PASSED

Final result PASSED

russia islamic equity index
Russia Islamic Equity Index
  • We screened Russia’s 50 to 60 most liquid stocks, all the constituents of RTS Index as of March ’03 and March ’07 using screens described earlier in this presentation. The stocks that had passed the screens were then tested for price performance 1 year backwards and 2 year onwards from March ’03, as well as 2 years backwards from March ’07, thereby making up for total track period of 5 years
  • Of the total 50 stocks constituents of RTS Index as of March’07,38% (19 stocks) are acceptable based on our methodology
stocks on russia islamic equity index accounted for 54 of the broader rts index as of march 07
Stocks on Russia Islamic Equity Index accounted for 54% of the broader RTS Index as of March ‘07

Source: Bloomberg, Alfa Bank Research

overall since march 02 russian islamic equities have performed in line with the broader rts index
Overall, since March ’02 Russian Islamic equities have performed in line with the broader RTS Index

Source: Bloomberg, Alfa Bank Research

russia s largest shari ah compliant equities as of mar 07
Russia’s Largest Shari’ah-compliant Equities as of Mar ‘07

Source: Bloomberg, Alfa Bank Research

Ukraine: Compliant equities performed better vs broader PFTS from Mar ’05 to Mar ’07 due to overweight in metals

Source: PFTS, Bloomberg, Alfa Bank Research

some of ukraine s shari ah compliant equities as of mar 07
Some of Ukraine’s Shari’ah-compliant Equities as of Mar ‘07

Source: PFTS, Bloomberg, Alfa Bank Research

some of kazakh shari ah compliant equities as of sep 07
Some of Kazakh Shari’ah-compliant Equities as of Sep ‘07

Source: Bloomberg, Reuters, Alfa Bank Research* MCAP data at close September 17 2007


The time is right for an investment fund using Shari’ah principles for Russia & the CIS equities to capture a unique opportunity

terms fact sheet preliminary
Terms fact sheet - Preliminary

Target investors Shari’ah-minded investors worldwide

Fund size US$30-50 mln

Strategy Equities long-only, Shari’ah compliant stocks

Liquidity Monthly subscriptions, quarterly redemptions

Fees 2% management , 20% performance fees

High water mark Yes

Style Actively managed, absolute performance

shari ah research
Shari’ah Research

The Shari’ah research effort at Alfa Bank is managed by Rinat Gainoulline, a local specialist on Shari’ah investing. Rinat is acting as a link between the Shari’ah Board, the Fund manager and Alfa Bank’s in-house research to ensure in-house Shari’ah compliance in all aspects of Fund’s investments and operations including the Shari’ah investment screening process.

A few years after joining the Equity Research Team of Russia’s Alfa Bank, Rinat conducted extensive research on Russian Shari’ah-compliant equities with the assistance of Al Rajhi Banking & Investment Corporation of Saudi Arabia.

In October 2003 Rinat took a course in Islamic Fund Management in Manama organized by Bahrain Institute of Banking and Finance.Rinat Gainoulline is the author of “C.I.S. Shari’ah compliant equities: Guidelines for picking acceptable stocks”.

Rinat has worked for several years in the research department of Alfa Bank covering Kazakh equity strategy. Before joining Alfa Bank Rinat worked for Middle East Team at The Gorbachev Foundation in Moscow.Rinat is a graduate of Moscow State Institute for Foreign Relations (MGIMO) with majors in International Economic Relations, Middle Eastern issues and Arabic language. Rinat speaks English and Arabic.

Rinat GainoullineEquity Research

(+7 495) 795




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