AFC Uzbekistan Fund valuations as of 31st August 2023:
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Estimated weighted harmonic average trailing P/E (only companies with profit):
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3.72x |
| Estimated weighted harmonic average P/B: |
0.74x |
| Estimated weighted portfolio dividend yield: |
4.78% |
Currency volatility leads to adjustment in Uzbek som
In mid-August, the Russian ruble briefly touched 100 to the USD before the Central Bank of Russia increased the policy rate by 350 basis points to 12% on 15th August. The ruble has depreciated 22.8% year to date. One key reason for the ruble’s weakness is the country’s budget deficit due to falling hydrocarbon exports. However, the currency depreciation isn’t expected to cause much, if any, domestic inflation in Russia as the country has heavily invested in import substitution since 2014, and aside from outbound tourism, shouldn’t put much pressure on the finances of Russian citizens. Thus, Russia’s economy looks quite resilient even in the face of the depreciating ruble.
However, as Russia is Uzbekistan’s second-largest trading partner and biggest source of inward remittances (representing 87% of all remittances), with Russia being a key market for Uzbek textiles and agricultural products, the Central Bank of Uzbekistan decided to loosen the currency’s trading band and allow the som to devalue 3.5% on 10th August 2023 in order to keep the country competitive on the regional market. Surely another incentive for the Central Bank of Uzbekistan to devalue the currency during August is weakness in the currencies of its other key trading partners, China and Turkey, whose currencies are down 4.7% and 42.97% year to date versus USD.
Year to date, the Uzbek som is down 7%, and we are comfortable with this, having stated from the inception of the fund that annual depreciation in the mid-single digits should be expected as Uzbekistan is a manufacturing and export centre, thus following in Vietnam’s footsteps of preventing the currency from strenghtening to remain competitive. For the remainder of the year, while we could see some additional minor depreciation, we don’t foresee any big devaluations like last month.
Capital markets update and a sandbox
One of the exciting things about the Uzbek market is the lack of coverage provided on individual equities. This is of course a double-edged sword as a lack of “marketing” by brokers can lead to share price malaise, as we have seen over the past year. However, this has enabled the fund to continue to grow its allocation to well-managed and undervalued businesses, which we believe will re-rate as market liquidity continues to grow.
On this note, the market saw two very positive developments during August. First, the Ministry of Economy and Finance is now back in charge of major economic decisions and reforms after they were handed over to the Presidential Administration in December 2022. As the MinFin’s wings were clipped, with the head of the Presidential Administration and former member of the Ministry of Investment, Jamshid Umurzakov, gaining more control of economic decision-making, most of the western-educated Uzbeks who had come back to partake in nation-building and worked at the MinFin quit, along with the Minister of Economic Development and Poverty Alleviation and Deputy Prime Minister, Jamshid Kuchkarov who was heavily involved in economic reforms.
The investment community, including us, were hopeful these changes would accelerate broader economic reforms as the presidential administration could facilitate reforms, sidestepping the Oliy Majlis, Parliament, including in the realm of privatisations where they controlled the Agency for Strategic Reforms, which oversees 31 SOE’s slated for privatisation. However, with no forward progress in the first seven months of the year, August saw some radical changes as the MinFin regained its former power as “nature heals.”
As a result of the Presidential Administration’s failure to manage the budget and broader economy, last month Mr. Umurzakov was fired, while former Minister Kuchkarov was promoted to Minister of Finance, as well as retaining his position as Deputy Prime Minister. Several Uzbeks who left last year are in discussions to come back to the ministry, and the most high-profile name on this subject is former Deputy Minister of Finance Odilbek Isakov, who has returned as an advisor to the MinFin where he will be focusing on government debt, collaborating with international rating agencies, and more. Mr. Isakov was a key driver in getting Uzbekistan’s sovereign credit rating, issuing Eurobonds and pushing for the development of the capital markets, and we couldn’t be more pleased that he is involved again with the government. Further, the Agency for Strategic Reforms is in the process of being overseen by the MinFin, which means they will have more direct power in regard to facilitating SOE restructuring and privatisations.
Second, we have harped on for a while about the capital markets legislation sitting in the Oliy Majlis, parliament, and how it will transform the capital markets once passed. It is moving along and is under review, as well as being offered for comment; however, the EBRD, when advising and working on drafting this document, simply made it too big. The document should have been broken down into stages as much of what’s in the legislation doesn’t need to be implemented today and could have occurred via a multi-stage process.
It is too late now to divide the legislation, but we are hearing positive chatter from multiple contacts that the government may be looking to establish interim legislation in the form of a “sandbox” for the capital markets, which will allow for many of the reforms we have discussed in previous newsletters to be implemented in advance of the comprehensive capital markets legislation being passed. If this is to occur, it will be a boon for the capital markets, and thus we are following it closely and hope to discuss more concretely in the future.
Lastly, as the sideways choppy action in the market has certainly been monotonous, nothing moves in a straight line and a bet on Uzbekistan is a bet on what I like to call the New Fertile Crescent. As the world bifurcates and investment in the region accelerates, Uzbekistan is among the best-placed countries in the region to benefit from this interconnectivity and growth from the Middle East into Central Asia, especially as it has roughly USD 33 billion in foreign exchange reserves and thus can retain its independence without worry of falling into a debt trap.
So, while the fund is now flat for the year, under the hood our portfolio companies continue to do very well. During August, one of the fund’s five largest holdings, a consumer goods conglomerate, filed second-quarter 2023 earnings, which were superb! Second quarter yoy profit grew 370%, while trailing twelve-month earnings rose 45%. The company ended August at a P/E of 5.75x and P/B of 3.14x.
Second AFC Uzbekistan Fund Investor Tour "Sold Out"
Due to the significant interest in our second Uzbekistan investor tour, we are planning to host our 3rd tour in early May 2024. We will share more details about this over the coming months.
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