Brunswick UBS Warburg is one of the premier investment houses in the Russian securities market. Brunswick Warburg was established in November 1997 as a 50/50 joint venture between Brunswick Group and UBS Warburg offering equity brokerage and corporate finance services. In addition, Brunswick Capital Management, which is based in London, is a fund manager with several Russia-dedicated and emerging-markets investment funds. The AIG/Brunswick Millennium fund is a direct-equity fund targeted at Russian opportunities. The three entities are completely distinct and unrelated except for the common shareholding by the Brunswick Group. Brunswick companies have operated in Russia since 1993 as leaders in the areas of brokerage, asset management and corporate advisory.

Jeffrey R. Costello is Chief Executive Officer of Brunswick UBS Warburg. He told Investments in Russia about the company's activities in Russia.

The Russia Journal: Do you see a return of US institutions to the Russian market? How has the brokerage business been since 1998, and have you noticed increased foreign investment activity?

Jeffrey R. Costello: We have indeed seen US institutional money returning to Russia over the past year. Throughout much of 2000 and 2001, the interest from US clients was particularly in Russian exporters like Yukos and Norilsk Nickel. After the Crawford summit, the interest has intensified and broadened as US investors are now waking up to the fundamental macroeconomic changes that Russia has undergone since the '98 crisis. Companies that are leveraged to domestic growth like cellular operators and energos are now getting more attention, along with exporters. Moreover, the overall returns have been excellent and the more balanced media coverage of Russia has allowed investors to focus on those returns. Finally, Russia is benefiting from a global reexamination of emerging markets in light of lower yields in the mature market economies.

RJ: Besides macro-economic reasons, many investors feel that the Russian market was overvalued pre- 1998, especially given that the corporate governance was very poor and shareholder rights were almost never respected. Do you think in these terms the character of the market has changed?

JRC: In our view it is hard to underestimate the importance of corporate turnarounds for Russia's future valuations. With the owners of most of Russia's major corporations now having completed their fight for control, we are seeing a consistent trend towards better corporate governance and management. Where core shareholders have large majority stakes there is considerably less incentive to dilute minority shareholders or transfer funds out of companies - on the contrary, there is a strong motivation to improve operations and profitability. In state-owned companies some problems remain, and we could see further scandals at Gazprom and possibly at UES. However, greater scrutiny by the government and presidential administration should mean that any such scandals will be smaller-scale than in previous years.

As to value, despite the recent rally, Russian equities trade at very steep discounts to their emerging market peers. According to our estimates, Russian equities remain the least expensive in GEM markets on standard financial measures. As an example, a company like Yukos is currently trading at a 2003E EV/DACF multiple of around 2, whereas Petrobras trades at 5. Similarly, Vimpelcom trades at a 2003E EV/EBITDA multiple of around 5, while Turkcell is at 6.5 and China Mobile at 7.5.

RJ: You have recently announced some major corporate finance deals and western banks have started syndicated lending to Russian banks again. Do you see a positive shift towards foreign direct lending and investments into Russia?

JRC: Foreign direct investment remains very low, compared to Russia's peers. The most encouraging trend over the past two years in this regard has been the repatriation of significant funds by Russians as direct and/or portfolio investment. Certainly, once the telecoms and energy sector restructurings are complete there will be interesting opportunities for foreign strategic investors in these sectors.

With respect to financing, the debt capital markets are already reopened for Russian corporates and the costs of financing should decrease once the Russian Federation enters the Eurobond market. There is a small but growing ruble debt market developing which is a very positive sign for corporations. As for equity financing, we do not expect the IPO market to really catch fire until 2003-2004 as there are a number of Russian companies that would like to pursue a foreign listing, but not that many that are ready to do so today.

RJ: Russia has been in the backwaters of the global investment scene. But you have maintained a large presence here. Has it generally been rewarding and how do you look ahead towards 2002 and 2003 ?

JRC: Like all investment banks operating in Russia during 1998 we downsized dramatically pre- and post-crisis. We had very good years in 1999, 2000 and 2001, however, and would expect to continue to grow as the Russian market rerates. To some extent the nature of the business is changing, as domestic investors – both portfolio and direct – are much more important to the overall market than was the case pre-crisis. We have been adapting our business model to capitilize on the opportunities that this shift is creating, while at the same time staying focused on our core business of selling Russian equities to foreign institutional investors.

RJ: Among the global equity and debt markets, how aggressively does B-UBS-W market Russia? And how are the western institutions now responding to Russian opportunities?

JRC: Along with Russia's improved international geopolitical status, we expect a substantial rise in liquidity this year for the following reasons:

• We are seeing global funds returning to the market, likely to bring with them large new flows;

• Russia-dedicated funds are also seeing inflows - of six Russia-dedicated funds we surveyed, all said that they anticipated substantial new flows in 1H02, the first time this has occurred since 1997;

• We believe investors wanting exposure to Russia's macroeconomic success are likely to shift from fixed income to the equity market;

• Russian investors appear set to continue increasing their role in the market. Russian banks are gradually seeing capital increases, and while in the past they have primarily focused on fixed income investments, falling bond yields suggest they are likely to switch into equity.

RJ: Finally, would you risk putting a number to how much direct and portfolio investment Russian can expect in 2002 and 2003 if the political economic situation remains stable?

JRC: One of the driving forces behind the ongoing rerating of Russian equities has been and will be Putin's ability to position Russia as a major global player whose interests are aligned with those of the developed world. Since the September terrorist attacks, a new consensus has emerged on global defense issues, Chechnya and WTO entry. While we see little reason for this to change, especially given Russian exporters' support for this new global role for Russia, a change in these perceptions towards Russia could negatively impact new inflows.