Russian Oil and Gas. October 2017 - Tomorrow is a Distant Memory

> The capital misallocation observed at Rosneft over the past several years shows no signs of abating. This casts doubt on our and others' financial forecasts, which assume a halt to acquisitions, reduction in capital investments and rise in net income and dividends. The company's strategy needs to change markedly for any of these things to materialize.
> Strong European sales, modest growth in gas prices and Gazprom Neft's improved profitability in refined products will all serve to boost Gazprom's numbers this year and next. We raise the stock to an opportunistic BUY but remain skeptical of its long-term value.
> Lukoil might make a decision on its treasury shares, which represent a sixth of its share capital, before its strategy day in early 2018. Coupled with strong cash flow generation and a rising dividend, this could reinvigorate the stock. Gazprom Neft, meanwhile, will likely reinstate interim dividends and should swing back to positive free cash flow in 2018. Lukoil, Gazprom Neft and Novatek are our top calls for the next 12 months.
> Tatneft's share price has risen 25% since the news of the dividend hike in late April. The stock is now approaching its fair value, and we downgrade it to a HOLD. Our strategy team, however, expects accelerated inflows into Russian equities as the discount rate shrinks. Tatneft's shares could outperform on this, given its heavy weighting in the MSCI index relative to its free float.
> Recent changes in the shareholder structure and the expected decline in capex increase the chances that Transneft will hike dividends next year, which leads us to raise the stock to a HOLD. The valuation, however, still looks rich to us.
> We intend to remove Bashneft from Under Review after the company's dividend policy becomes clearer, possibly in November.
> The Urals price will likely average about $52/bbl this year. We leave our 2017E and longer-term assumption at $50/bbl for easier comparison across years, meaning earnings should slightly exceed our 2017E forecasts.