OREANDA-NEWS. December 1, 2011. A three-scenario approach. Forecasting the upcoming year is always a challenging assignment and rarely do we find ourselves approaching this task in such trying conditions. The obvious risk is that the shelf life of such a report can be very limited. With market conditions and investor sentiment fluctuating broadly on nearly a daily basis and opinions split over the future of Europe, the US, and China, we present three scenarios for 2012 on how the year may pan out and how investors should position themselves within Russian equities.

Scenario 1: Oil price holds up despite ongoing troubles in Europe. In essence, this implies no break in the status quo. As long as European politicians court disaster by failing to secure a convincing stabilisation package, markets will likely be volatile and oil stocks should continue their relative outperformance in Russia. In the energy sphere we like dividend ideas, selected growth stories and companies that service the oil majors. Under a high oil price, we would also expect consumer stocks to return to favour, so we have compared sector companies’ estimated cash outflows and inflows from July 2011 to July 2012 to assess which stocks are better positioned in terms of refinancing their debt and preserving their expansion programmes.

Scenario 2: Global economic backdrop deteriorates, oil price retreats. A softening oil price is likely to spark a broad market decline and may be exacerbated by profit-taking in oil stocks. In this case, we highlight the largest dividend yields and single out stocks that didn’t cut their payout ratios during the 2008-09 crisis. We also emphasise stocks which may become more defensive, such as Rostelecom and certain utilities, following the Mar 2012 elections. Finally, take note of names that outperformed the market in previous slumps, as a familiar pattern has been emerging since 1 Aug 2011.

Scenario 3: A resolution of the European debt crisis; US and Chinese growth remains intact. Although we regard this as the least likely scenario (at least in 1H12), if we assume that European leaders will eventually be able avert an all-out catastrophe, and global growth concerns subside, then realistically we should expect a sustained period of market recovery at some point in 2012. During a rebound, we advise investors to focus first on the most heavily underperforming stocks of the preceding decline. An analysis of previous declines has identified certain names which tend to consistently bounce back better than others, frequently in the materials and financial sectors. Additionally, our banking team discusses how Russia’s banks might fare under a more optimistic economic scenario, given that their current target prices assume a recession scenario.

We believe oil price weakness from a global slowdown is the mostly likely scenario. In our view, Scenario 2 is the most probable in 1H12 as we anticipate some softness in oil prices, which appear to be trending lower on slowing growth in China (its oil imports may already have peaked) and a generally deteriorating global economy.