How and where to invest in Ukraine – if you can stand the risk

With developed markets mired in stagnation, investors are scouring the globe in search of places to put their money. Off the beaten path, Ukraine presents precisely this kind of promise, if only one knows how and where to look.Expected to have only 2.2 percent growth in gross domestic product growth in 2012, Ukraine has clearly slowed down from the 2000-2008 boom years, when it averaged a stunning 7.5 percent annually.But as much of Europe slides into recession, Ukraine’s positive growth rate still places it among the region’s leaders. However, the fallout from the previous crisis and vulnerability to external shocks varies greatly by company and sector, making judicious choices the key to success.The August stock market collapse and subsequent doldrums have left many equity investors scarred. Yet things have picked of late. A combination of positive results and hopes that Europe debt crisis may be abating drove the Ukrainian Stock Exchange up more than 12 percent since mid-January.While most names are illiquid and volatility will likely remain high, this remains one of the better options to get some mid- to long-term exposure to Ukrainian energy, metal and machine-building companies.

Foreign-listed companies are a more secure way to invest in some of Ukraine’s top businesses. Ukrainians will need an individual license from the National Bank of Ukraine to pick this road, however, which requires a Hr 1,700 payment and an anti-organized crime background check.The alternative is going through a similarly licensed fund, said Oleksiy Demyanenko, associate at the Asters law firm.With higher standards of corporate governance and transparency, London and Warsaw are the main destinations for Ukrainian firms ready to play in the international arena. This is particularly true of the agro sector, which represents 7 out of 10 companies on the Warsaw Stock Exchange’s special Ukraine index WIG-Ukraine.While problems with Ukraine’s export capacity and poor prospects for the 2012 harvest have plagued the sector of late, it retains phenomenal potential.

Despite low production costs and a quarter of the world’s most fertile land, Ukraine’s yields are still twice lower than in Europe, according to Kyiv-based investment bank Dragon Capital, owing to outdated organizational and production methods. Moreover, this year’s troubles are balanced out by the gains from last year’s bumper crop, said Dragon Capital’s agro analyst Tamara Levchenko.Interest, however, should not be limited to primary stock markets. The London’s Alternative Investment Market or Warsaw’s New Connect market are specifically designed for the smaller, high-growth companies that abound in Ukraine.

More flexible regulations and a possibly to raise up to $1 million have attracted a great deal of attention among Ukrainian companies said Andriy Dubetsky, who heads the Warsaw Stock Exchange’s representative office in Ukraine. He expects several local companies to join the currently listed Agroliga later this year, once market conditions improve. Investors with deeper pockets can take their pick from a range of bonds. As with equity, Ukrainians are limited by licensing restrictions, with only hryvnia-denominated corporate and sovereign bonds being available to the public.While these start at a lower investment threshold – just several thousand hryvnia – they also carry currency risk. Indeed, a devaluation of the hryvnia, which has loomed Sword of Damocles-like since end-2011, could see their dollar-denominated value tumble.Eurobonds or dollar-indexed sovereign bonds, which are denominated in hryvnia but indexed to the dollar exchange rate, eliminate this risk.For those investing several hundred thousand dollars, this is the preferred option.

Indeed, in a market rocked by uncertainty, Dragon Capital recommends sticking to the most trusted, high-quality names like Metinvest or DTEK (both controlled by Ukraine’s richest person Rinat Akhmetov).Yet it is the strategic investors and companies out for mergers and acquisitions that may rock Ukraine’s investment scene in 2012. This comes both from the side of private equity funds out for lucrative acquisitions and local companies looking to consolidate their assets.According to Vlad Ostapenko, head of mergers and acquisitions at the international auditor Ernst & Young, agriculture and food processing will be the two big sectors to watch.Agricultural companies were very successful in attracting financing last year, he said, and still have enough cash for acquisitions. In turn, the food processing industry is still fragmented without clear leaders, Ostapenko noted, making it a prime candidate for consolidation.Asked what external factors to watch out for, Ostapenko listed a hryvnia devaluation, Europe’s recovery or lack thereof, and changes to the tax administration.Good or bad, 2012 will certainly not be boring.