Eurasiamongoliaoutlook2012

Mongolia Outlook 2012
World’s Fastest Growing Economy

31 January 2012

Copyright © 2012 Eurasia Capital Ltd.
All rights reserved. This report or any portion thereof
may not be reproduced or used in any manner whatsoever
without the express written permission of Eurasia Capital
except for the use of brief quotations.
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31 January 2012

CONTENTS

Summary...................................................................................................................................................3
2011 At a Glance.......................................................................................................................................4
Economy ...................................................................................................................................................7
The Year of Records......................................................................................... 7
Trade Exceeds US$11bn .................................................................................. 8
Robust FDI Inflows and M&A Activity .............................................................9
Expansive Fiscal Policy..................................................................................... 9
Inflation Contained by Tight Monetary Policy.................................................11
Politics.......................................................................................................................................................13
Parliamentary Elections................................................................................... 13
Global Economy........................................................................................................................................15
Commodities: Bullish Amid Modest Global Growth.................................................................................16
Mining.......................................................................................................................................................17
Banking .....................................................................................................................................................20
Asset Classes.............................................................................................................................................26
Local Equities: Second Best Performing Market Globally ...............................26
International Equities ...................................................................................... 33
Mongolian Tugrik ............................................................................................ 34
Fixed Income ................................................................................................... 36
Property........................................................................................................... 38
Private Equity .................................................................................................. 40
Infrastructure .................................................................................................. 42
Annex 1: 2011 M&A League table ............................................................................................................45
Annex 2: Silk Road Composite Index Companies......................................................................................46
Annex 3: Silk Road Hong Kong Index Companies .....................................................................................48
Annex 4: Silk Road Australia Index Companies.........................................................................................48
Annex 5: Silk Road Mongolia Index Companies........................................................................................49
Contacts....................................................................................................................................................80

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31 January 2012

SUMMARY
Mongolia continued its strong performance in 2011 in terms of the pace of economic growth,
equity market, exports and foreign direct investment inflows. The country’s performance in 2011
has exceeded nearly all our projections we made in our Mongolia Outlook 2011 report published in
January 2011. We estimate Mongolia overtook Qatar and has become the world’s fastest growing
economy in 20111. Investor sentiment and attractive valuations have supported the stock market
and ranked this frontier market as the second best equity market globally last year. Robust
international commodity prices and firm demand in China, the key market for Mongolian
commodities, have boosted exports to an all time high. Accelerated development of the Oyu
Tolgoi project and investor appetite for quality resource assets have attracted a record level of
foreign direct investments. We believe that Mongolia that is emerging as a key commodity supplier
in Asia will continue its stellar performance through 2012 and beyond.
We project Mongolia to experience astonishing 20% GDP growth this year, further solidifying its
undisputable position as the world’s fastest growing economy in 2012. Substantial increase in
exports (in particular, coal and iron ore), government spending, investments in major mining
projects, primarily in Oyu Tolgoi and rapid surge in consumer spending will be the key drivers of
the growth this year.
We remain bullish on MSE listed equities in 2012. We expect the Mongolian equities to benefit
from increased capital inflows and estimate the MSE TOP 20 Index to reach 28,000 by the end of
this year, or +30% gain for 2012. We favor small caps that will outperform the index due to high
growth of their businesses buoyed from low base effect and attractive valuations. We anticipate
more IPOs and secondary offerings of Mongolian companies, both domestically and
internationally, especially much anticipated jumbo IPO of Erdenes Tavan Tolgoi. Therefore, we
strongly recommend our clients to invest in the Mongolian local equities as the most effective way
to gain exposure to the Mongolian growth story.
We target the Silk Road Mongolia Index (SILKMN) that includes Mongolia focused internationally
and selected locally listed companies to reach 1,330 (+20% growth) in 2012, to be somewhat
weighed down by expected subdue share performance of Ivanhoe Mines, the largest component
of SILKMN index. SILKMN index finished 2011 poorly, down 27% due to negative investor
sentiments toward emerging/frontier markets, triggered by the EU debt crisis and risk aversion. As
a result, Mongolia related stocks have been unjustifiably oversold last year. We advise investors to
snap up the most beaten up stocks as the companies’ strong fundamentals and value of their
resource assets become more apparent.
Our key investment themes in 2012 are opportunities across asset classes local and international
equities, fixed income, private equity and real estate. Our top picks for the next 12 months among
local stocks are Tavan Tolgoi (coking coal), APU (beverages), Remicon (construction materials) and
Mongolia Development Resources (property). Mongolian Mining Corp. (coking coal), Prophecy
Coal (thermal coal, power), Entrée Gold (gold) and Erdene Resource Development (molybdenum,
coal) are our top picks among the SILMN index companies.

1

We assume that the economy of Qatar is estimated to have grown 15% in 2011, according to “Qatar Economic Outlook 2011
2012” report published by the General Secretariat of Development Planning of Qatar on October 1, 2011.

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31 January 2012

2011 AT A GLANCE
World’s fastest growing economy
Our call made in our “Mongolia Outlook 2011” published on January 11, 2011, for the
growth of the Mongolian economy played out as the Mongolian GDP grew 17.3% in real
terms last year (vs our 10% growth target) and is likely to have become the world’s fastest
growing economy outperforming Qatar (The General Secretariat for Development Planning
of Qatar projected a 15% growth rate in 2011). Record high exports, investments,
government spending and consumption have transformed the domestic economy and
driven the growth.
Second best equity market globally
As we estimated in January last year the Mongolian stock exchange has maintained the top
two best equity market globally in 2011 with an impressive growth of 32.6% in US$ terms
(compared to Iraq Stock Exchange +35%). After being the best in 2010, MSE benefitted from
improved investor sentiment and attractive valuations last year.
Beating record FDI
Foreign direct investments (FDI) hit a record level of US$3.8bn last year as we estimated.
The ongoing Oyu Tolgoi, operating key coal and other mineral projects and exploration stage
mines have attracted substantial capital amid robust demand in China and untapped
potential in the resource rich country. Mongolia also saw robust M&A activity with most of
the deals being struck in the mining sector. We estimate that M&A deal values amounted to
over US$2bn.
Foreign trade all time high
In 2011, the Mongolian foreign trade surpassed its historical high set a year earlier, in line
with our projections. Total trade turnover surged 85.1% y o y to US$11.3bn. Exports
registered back to back record years growing 64.4% y o y to US$4.8bn in 2011 thanks to
high international prices for key export commodities and physical volume expansion. China
remained the biggest trading partner of Mongolia accounting for 56.7% of total trade,
including 92.1% of exports and 30.8% of imports. Coal production exceeded 30Mt and
exports 21Mt in 2011 that enabled Mongolia to overtake Australia as the biggest coking coal
supplier to China. Moreover, China surpassed Russia in terms of selling more goods and
services to Mongolia and became largest importer to the country.
Government spending feeding expansion
The economy experienced record fiscal expansion in 2011. General government expenditure
surged 55.6% y o y to US$3.8bn. The budget performed extremely well for most of 2011
registering around 3% surplus at the end of 3Q2011. State budget flipped into US$310mn or
3.6% of GDP deficit at the end of the year with increased government expenditure,
particularly capital spending and government consumption. Capital spending jumped 80.6%
y o y to US$843.3mn. A 23.6% increase in public sector salaries and wages and 59.3% rise in
subsidies and transfers, including almost 150% jump in social cash transfers supported
strong private sector consumption.

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31 January 2012

Long term bullish on MNT
Our call made on January 31, 2011 that the MNT may repeat global outperformance and
continue appreciating another 10% in 2011 played out well in 1H2011. However, in 2H2011,
MNT weakened on the back of the heightened global market volatility. The currency
strengthened 5% to MNT1,195 per US$ through April 1 after which it has weakened 16.8%
by end 2011 to MNT1,396 amid expanding current account deficit to US$2.4bn (end 2011)
fuelled primarily by more than expected increase in imports of capital goods for mining
projects.
Booming banking sector
Mongolian banking sector expanded a record rate of 50.1% y o y in assets to MNT9,372bn
(US$6.7bn), compared with 41.2% in 2010 (assets to GDP ratio reached to the new high of
86.5%). Deposits surged 40% y o y last year as individuals and business entities as well as
international institutions, which benefitted from significant increase in disposable income
and sought portfolio diversification viewed the strength of the local currency MNT and high
interest rates as a good investment.
A year active with RTOs
In 2011 mining IPOs were not as dynamic as in 2010. There was only one full fledged IPO on
ASX by FeOre Ltd (FEO:AU), a Mongolia focused iron ore explorer, who raised A$35mn. In
2011 several companies came to the market through reverse takeover (RTO) of Mongolian
assets (exploration licences). These companies, Draig Resources Ltd. (former C@ Ltd),
Modun Resources Ltd. (former TVN Corp. Ltd), UTMI (former Wedge Energy International
Inc.), Mongolian Resources Corp. Ltd (former Alamar Resources Ltd) and Kincora Copper Ltd.
(former Brazilian Diamonds Ltd.), are currently trading on stock exchanges in Australia and
Canada.
Erdenes Tavan Tolgoi IPO delayed
Much anticipated IPO of Erdenes Tavan Tolgoi, the state owned enterprise that holds the
mining licence for the world’s largest untapped coking coal mine, didn’t take place in 2011
as it was expected. Early in July, the Government announced that it has selected China’s
Shenhua Energy Company, U.S. Peabody Energy Corp. and Russian Mongolian consortium to
develop the Western Tsankhi area of the Tavan Tolgoi mine. However, due to the public
pressure and dissatisfaction among the bidders over the selection process as well as refusal
by the National Security Council the Government had to backtrack on the deal. Later the
Government resumed negotiations with all bidders and announced that Erdenes Tavan
Tolgoi may raise more than US$3bn in IPO on the Mongolian and London Stock Exchanges by
July 2012.
Strengthening political ties
2011 was a successful year in the political life of Mongolia. The resource rich country signed
a Strategic Partnership Agreement with China in June 2011. We expect the agreement to
expand cooperation and bolster economic ties, and add further impetus to Chinese
investments into and exports from Mongolia. As a result of bilateral visits of the state
leaders, Mongolia and South Korea agreed to elevate relations to a “Comprehensive
Partnership” status that seeks to expand cooperation in resource and infrastructure
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31 January 2012

development. As a landlocked country, Mongolia puts emphasis on developing balanced
relations with its two large neighbours and countries beyond or “third neighbours” through
high level official visits by President and Prime Minister of Mongolia to USA, Australia, Italy
and the Middle East countries.

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31 January 2012

ECONOMY
The Year of Records
We estimate Mongolia was the world’s fastest
growing economy in 2011. It registered record
real GDP growth of 17.3% y o y and hit our 10%
projection made in January last year. Growth was
supported by record investments, exports and
government spending.

GDP Performance
14

25

12

20

10

15

8
10
6

Foreign direct investments (FDI), exports and
5
industrial output were driven by insatiable
4
Chinese demand for commodities. FDI reached
0
2
historical high US$3.8bn in 2011, a huge boon to
0
5
US$6.2bn (Y2010) Mongolian economy. In our
2007
2008
2009
2010
2011 2012F
estimate, over 80% of FDI went into mining.
GDP, US$bn (LHS)
Real GDP growth, % (RHS)
Mongolian exports registered back to back record
years with exports reaching US$4.8bn in 2011. Source: National Statistics Office of Mongolia (NSOM), IMF, Eurasia
Exports grew 64.4% y o y thanks to high Capital
international prices for key export commodities
and physical volume expansion. Industrial output increased 9.7% y o y, including 9.5% in
mining and 11.6% in manufacturing. Coal production exceeded 30Mt rising 22.6% y o y in
2011. Iron ore output nearly doubled reaching 5.7Mt from 3.20Mt in 2010. Crude oil output
rose 16.8% to 2.55MMbbl. Manufacturing expanded 11.6% y o y in 2011 with major
industries such as food and beverages growing 10.5%, production of non metallic mineral
products 40.5% and small 1.7% y o y advance in textiles.
Expansive fiscal policy supported impressive GDP growth in 2011. Total government
expenditure increased 55.6% y o y to record US$3.79bn. Capital spending surged 80.6% to
US$843.3mn. Increases in public sector salaries led to 23.6% growth in government
spending on salaries and wages. Private consumption was supported by 59.3% y o y
increase in social cash transfers and subsidies. Albeit significant increase in government
spending, state budget deficit remained small at about US$310mn or 3.6% of GDP. The
deficit is much smaller than initially budgeted 9.9% of GDP. The state coffers were boosted
by high price of mineral exports with mining sector accounting for about one third of
government revenue. Tight monetary policy kept inflation in check at 10.2%. Significant
depreciation of the national currency in the second half of 2011 alleviated risks of mining
crowding out other industries in the economy. Cheaper currency is allowing time to other
industries to adapt to rapid structural changes in the economy. Meanwhile, the Bank of
Mongolia maintains record US$2.5bn hard currency reserves to fight any sudden swing in
exchange rate in either direction. Overall, macroeconomic fundamentals of Mongolia have
probably never been better.
We project Mongolia to experience astonishing 20% GDP growth this year, further
solidifying its undisputable position as the world’s fastest growing economy in 2012.
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31 January 2012

Substantial increase in exports (in particular, coal and iron ore), government spending,
investments in major mining projects, primarily in Oyu Tolgoi and rapid surge in consumer
spending will be the key drivers of the growth this year.

Trade Exceeds US$11bn
In 2011, Mongolian foreign trade surpassed its historical highs set in the previous year, in
line with our projections. Robust international commodity prices and firm demand in China,
the key market for Mongolian commodities, have boosted exports to an all time high.
Total trade turnover surged 85.1% y o y to US$11.3bn. China remained the biggest trading
partner of Mongolia accounting for 56.7% of its total trade, including 92.1% of exports and
30.8% of imports. Last year China overtook Russia as Mongolia’s largest imports market.
China remains vastly the largest export market for Mongolian goods. It primarily buys
natural resources from Mongolia. Its demand for commodities fuelled 64.4% y o y growth in
Mongolian exports to record US$4.8bn. The country purchases almost 100% of Mongolia’s
coal, copper, iron ore, crude oil and zinc exports. In 2011, coal exports to China exceeded
21Mt generating US$2.2bn in export revenue. Mongolian exports such as coal and iron ore,
are usually sold at a discount at Chinese border. Mongolian producers lack scale and off take
agreements to sell to end users directly and middlemen catch high margins from commodity
trade. Mongolian exporters realized average price of US$110/t for their high quality hard
coal in 2011. With the ramp up of production, Mongolian producers will be able to realize
higher prices.
Exports by Resources (US$mn)

Exports by Markets (% of total, 2011)

5000
4000
3000
2000

Others
US$0.38bn
7.9%

1000
0
2004

2006

2009

2010

Coal

Copper
Gold

Zinc

Fluorspar

Molybdenium

2011

Iron ore

Crude oil

China
US$4.4bn
92.1%

Others

Source: NSOM

Source: NSOM

Mongolian imports grew over 200% to US$6.5bn in 2011 from US$3.2bn in the previous
year. Imports are driven by large scale construction in mining sector and growing
consumption of population. Petroleum products, mining equipment and machinery, and
food products are the major imports to Mongolia.
We expect Mongolian foreign trade to register another record year in 2012. Mongolian
trade is primarily driven by demand for commodities in China and mining related
development inside the country. We do not expect slowdown in demand for Mongolian
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31 January 2012

commodities. Mongolian exports are set to benefit from regional development focus in
China. Mongolia borders some of the fastest growing regions of China. Infrastructure
bottlenecks inside China and cheaper prices make Mongolian exports highly competitive.
Mongolian exports may realize higher prices in 2012 due to diminishing role of middlemen
and traders. China is to remain the largest trading partner of Mongolia. Mongolian exports
are set to increase in volume with growth in coal and iron ore output, as well as in value due
to higher realized prices.

Robust FDI Inflows and M&A Activity
In line with our expectations,
Mongolia experienced another
year of record foreign direct
investments in 2011. Accelerated
development of the Oyu Tolgoi
project and investor appetite for
quality resource assets have
attracted US$3.8bn in FDI to
Mongolia. We estimate that over
80% of FDI went to mining sector.
Ivanhoe Mines’ construction
budget for Oyu Tolgoi project
alone was in excess of US$2.4bn.

Foreign Direct Investments (US$mn)
4,000
3,000
2,000
1,000
0
2006

2007

2008

2009

2010

2011

Source: Bank of Mongolia

Mongolia also saw robust M&A activity with most of the deals being struck in the mining
sector. We estimate that M&A deals value doubled reaching over US$2bn. Most notable
deals were Mongolian Mining Corporation (HKSE: 975) acquisition of QGX Holdings for
US$464.5mn, to increase to US$950mn on reserve and output results, and Banpu Minerals
purchase of Hunnu Coal (ASX: HUN) for US$537mn. We expect continued strong FDI inflows
to Mongolia in 2012. Mining related projects drive investments again. We expect Ivanhoe
Mines to invest in the region of US$2bn into construction of the Oyu Tolgoi project.
Expansion of production at the East Tsankhi Tavan Tolgoi coalfield and tendering out of
West Tsankhi will attract investments into Mongolian mining. Public private partnerships in
infrastructure, including construction of power plants, railroads and roads under BOT model
may attract further foreign investments into Mongolia.

Expansive Fiscal Policy
Mongolia experienced record fiscal expansion in 2011. General government expenditure
increased 55.6% while revenue went up 40.9% y o y. General government budget
performed extremely well for most of 2011 registering around 3% surplus at the end of
3Q2011. State budget flipped into US$310mn or 3.6% of GDP deficit at the end of the year
with increased government expenditure, particularly capital spending and government
consumption. Equilibrated general government budget (that is excl. approx. US$190mn in
Stabilization Fund) deficit stood at 5.8% of GDP. The deficit is much smaller than initially

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31 January 2012

planned 9.9% of GDP, primarily due to high price of commodities. Total general government
budget revenue, including revenue allocated to Stabilization Fund was MNT4.4tn
(US$3.5bn). Mining sector accounts for about one third of government revenue. Price
assumptions for core mineral revenue generating commodities in state budget 2011 were
copper US$5,983/t, coal US$98.8/t and gold US$1,350/oz.
Total government expenditure
and net lending reached
MNT4.8tn (US$3.8bn) in 2011.
Capital spending increased by
80.6% to US$843.3mn. 23.6%
increase in public sector salaries
and wages and 59.3% increase in
subsidies and transfers, including
almost 150% increase in social
cash transfers supported private
sector consumption. Subsidies
and transfers accounted for
34.8% of total government
expenditure and net lending,
reaching 15.4% of GDP.

Government Budget Performance (MNTbn)
6000
5000
4000
3000
2000
1000
0
2006

2007

2008
Revenue

2009

2010

2011

2012F

Expenditure

Source: NSOM, Eurasia Capital estimates

The Government plans further increase in expenditure in 2012. Approved state budget
envisages record MNT6.31tn (US$4.7bn) spending and MNT6.15tn (US$4.6bn) revenue. The
Government seeks to increase expenditure by 31.7% y o y, whilst revenue side of the state
budget is expected to increase by 39.7% y o y. GDP assumed to reach MNT16.13tn
(US$11.9bn). Budget deficit will be 1.0% of GDP. Equilibrated general government budget
(excl. Stabilization Fund) deficit will reach 3.0% of GDP. The Government expects to
accumulate MNT322.45bn (US$240mn) or 2% of GDP in the Stabilization Fund. Underlying
assumptions for mineral commodities in budget 2012 were copper US$6,663.5/t, gold
US$1,723.75/oz, processed coal US$166.58/t, coking coal US$102.60, bituminous coal
US$72.4/t and thermal coal US$57.2/t.
We hold a cautious view on budget performance in 2012. Increased spending comes at a
time of elevated risks to global growth. Cumulative spending on wages & salaries and
subsidies & transfers is expected to grow 34% y o y to reach 20.5% of GDP. That includes
social transfers exceeding 13% of GDP. Furthermore, capital expenditure is planned to
almost double to MNT2.0tn (US$1.5bn) reaching 12.4% of GDP. The Government expects
MNT522bn (US$400mn) from major mining project advance payments to finance budget
deficit.
In our view revenue side and GDP assumptions could be slightly optimistic considering risks
to global economy and concerns about growth in China. Revenue side may not expand at a
rate expected by the government. Advance payments from major mining projects may not
materialize yet, putting government fiscal standing under pressure. Actual budget deficit
may be higher than planned. On the other hand, strong commodity prices, diffusion of
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31 January 2012

global economy concerns and continued strong growth in China may dramatically improve
budget performance.

Inflation Contained by Tight Monetary Policy
Rapid growth and expansive
fiscal policy kept inflationary
pressure on Mongolian economy
throughout 2011. Government
expenditure on wages and
salaries increased 23.6% y o y.
Subsidies and transfers to
population grew 59.3% to about
US$1.3bn accounting for 38.8%
of total government expenditure.

Consumer Price Index (%, YoY)
15
12
9
6
3

Dec 11

Oct 11

Aug 11

Jun 11

Apr 11

Feb 11

Dec 10

Oct 10

Aug 10

Jun 10

Apr 10

Feb 10

Dec 09

0

To contain inflation the Bank of
Mongolia tightened monetary
policy
in
2011.
Inflation Source: NSOM
threatened to get out of control
in 1H2011 with core inflation hitting 11.4% y o y, whilst headline CPI number of 6.2% y o y
remained low. Government coordinated sales of meat helped to bring down food prices.
Meat and meat products remain a staple food in Mongolia and account for 16.5% of total
CPI. In the same period, loans outstanding grew 57.9% y o y. Loans grew incredible 7.2% m
o m in June 2011. Money supply (M2) jumped 63.8% y o y. Double digit inflation, incredible
loan growth rates and strong economic growth indicated at overheating economy in
1H2011.
The Bank raised its policy rate by 75 basis points to 11.75% in August and by 50 additional
basis points to 12.25% in October. Furthermore, the Bank of Mongolia raised the banking
sector reserve requirement twice in the year, by a total of 900 basis points to 11%.
Tight monetary policy kept core inflation at 10% y o y and headline national inflation at
10.2% y o y in 2011. Money supply (M2) growth rate declined to 37.3% by the end of 2011.
However, lending continued rising and registered 72.8% y o y growth in 2011. The Bank of
Mongolia policy moderated inflationary pressure; however risks of high inflation becoming
entrenched in the economy still remain. Strong growth and record government spending in
2012, including social transfers exceeding MNT2.1tn (US$1.6bn) will put considerable
inflationary pressure on the economy. The central bank announced its intention to keep
inflation below 10%. However, increased consumption will drive up prices, especially, food
and fuel prices, in our view. We expect aggressive monetary tightening late 2Q2012. To
contain inflation, the central bank may need to increase its policy rate as well as banking
sector reserve requirement. We believe monetary policy may not be enough to keep
inflation below 10% and it may hit 15% y o y during the year 2012.

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31 January 2012

Key Economic Indicators for Mongolia
Indicator
Population and income
Population, mn
GDP per capita, US$

2004

2005

2006

2007

2008

2009

2010

2011e

2012f

2.53
720

2.56
905

2.59
1327

2.63
1620

2.68
2108

2.74
1688

2.76
2267

2.81
3045

2.86
4056

National accounts
Nominal GDP, MNTbn
Nominal GDP, US$bn
Real GDP growth, y o y, %

2,152
1.8
10.6

2,780
2.3
7.2

3,715
3.2
8.6

4,599.5
3.9
10.2

6,555
5.1
8.9

6,591
4.6
1.3

8,415
6.6
6.4

10,830
8.6
17.3

16,134
12.0
20.0

Monetary indicators and inflation
M2 growth, y o y, %
CPI, y o y, %
Exchange rate, MNT/US$, end year
International reserves, US$mn

20.4
11.0
1,209
208

34.6
9.2
1,221
333

34.8
4.8
1,165
718

56.3
14.1
1,170
1,001

5.5
22.1
1,267
657

26.9
4.2
1,443
822

62.5
13.0
1,257
2,000

37.3
10.2
1,396
2,500

50.0
15.0
1,300
2,500

33.1
35.0
2.1

30.1
27.5
3.2

36.6
28.5
3.9

40.9
38.0
2.2

35.4
40.2
5.0

32.9
38.3
5.4

37.1
36.6
0.5

40.6
44.3
3.7

38.1
39.1
1.0

4,780
6,527
64.4
104.1
1,747
3,818

5,740
7,500
20.0
15.0
1,760
3,000

Government finance
Revenue, % of GDP
Expenditure, % of GDP
Budget balance, % of GDP

Balance of payments
Exports, US$mn
872
1,069
1,545
1,952
2,539
1,885
2,909
Imports, US$mn
1,021
1,224
1,516
2,170
3,616
2,909
3,200
Exports, y o y, %
41.2
22.4
44.9
22.5
30.3
24.9
54.3
Imports, y o y, %
27.5
16.0
25.4
36.1
66.6
34.3
49.7
Trade balance, US$mn
149
155
30
218
1,077
252.3
291.6
FDI, US$mn
92.9
182.3
367
500
709
801
1,400
Source: National Statistics Office of Mongolia, the Bank of Mongolia, IMF, Parliament resolutions, Eurasia Capital estimates
e = estimate, f = forecast

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31 January 2012

POLITICS
We view 2011 as a successful year for Mongolian foreign policy. The country is playing an
active and growing role in North Asia. The number of high level visits to and from Mongolia
reflects increasing significance of the country in the region. The country signed a number of
important bilateral agreements on cooperation and investments.
As a landlocked country sandwiched between Russia and China, Mongolia puts emphasis on
developing balanced relations with its two large neighbours and countries beyond or “third
neighbours”. Among many dignitaries, Mongolia hosted US Vice President J. Biden, German
Chancellor A. Merkel and South Korean President Lee Myung Bak. Mongolian President and
Prime Minister paid visits to China, Russia, USA, Australia, Italy and the Middle East
countries.
Mongolia signed a Strategic Partnership Agreement with China in June 2011. We expect the
agreement to expand cooperation and bolster economic ties, and add further impetus to
Chinese investments into the Mongolian economy. Mongolia also enjoys strategic
partnership status with Russia. During the visit of Korean President to Mongolia, the
countries agreed to elevate bilateral relations to a “Comprehensive Partnership” status. The
parties agreed to expand cooperation in resource and infrastructure development.
Mongolian astute and pragmatic foreign policy places the country at the heart of political
and economic developments in North Asia, while the country enjoys very good
“neighbourly” relations with many countries in the region and beyond.
Mongolian lively domestic policy demonstrated stability and continuity. The ruling coalition
government focused on development and poverty reduction. Consecutive years of record
FDIs indicate at the government’s aptitude to attract investments. The government provided
strong and unequivocal support to the Oyu Tolgoi Investment Agreement, albeit calls from
some Members of Parliament for re negotiation. Mongolian political process is consensus
driven and major decisions are hotly deliberated and contested. The decision process is time
consuming, but the decisions enjoy wide support afterwards. The abortive Tavan Tolgoi
tender reflects the nature of multi dimensional political process and difficulties of driving
major decision in pre election year by a coalition government.

Parliamentary Elections
The country will hold parliamentary elections in June 2012. Gearing towards elections the
Democratic Party, a junior partner in the government, has left the ruling coalition with the
Mongolian People’s Party (MPP). We expect lively political discourse on equitable economic
development, poverty reduction and welfare, society and environment in the run up to the
elections. A number of parties will participate in the elections, but we expect the Mongolian
People’s Party and the Democratic Party to dominate the elections and political agenda. The
elections will be held under the new Elections Law adopted in December 2011. The law
introduced proportional system into the election process. Previously, all 76 MPs were
elected by direct vote from single mandate districts. Under the new law, 48 MPs will be
elected by direct vote and 28 MPs will be elected on party list voting. The number of MPs
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31 January 2012

remains unchanged at 76. The Mongolian nationals living abroad will be able to vote only on
party lists.
Everyone will be wary of a repeat of the post 2008 elections crisis. The elections in 2008 saw
a brief period of turmoil and civil unrest before the forming of a coalition government
between MPP and DP. The coalition government succeeded in stabilizing the country and
focused on attracting investments, diversifying economy and fighting corruption. Overall, we
do not expect repeat of 2008. The country is developing at furious pace and there is an
intuitive consensus among major political parties on economic development. Regardless of
the election outcome, we do not expect reversal of recent achievements and major changes
to the economic governance.

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31 January 2012

GLOBAL ECONOMY
With an economy dependent on exports and foreign capital, Mongolia is not immune from
the trends in the global economy, in our view. Significant decline in international prices for
commodities may pose a risk to the Mongolian export revenues. The moderately growing
U.S. economy, sovereign debt crisis in Europe and slowdown in developing countries may
affect the demand for commodities, therefore putting downside pressure on prices. The
World Bank estimates the world economy to grow at a moderate rate of 3% in 2012
according to its Global Economic Prospects report released in January 2012. In particular,
growth in high income economies is projected to slow to 1.4% GDP growth rate this year
and the developing economies to 5.4%. The economy of China, the largest export market for
Mongolia, may slow to 8.4% amid expected weakening demand in the US and European
markets.

Global Economic Growth (2010 2012f)
18
16

15.1

14
12
10

8.4

8
5.4

6
4

3

1.4

2
0

0.3

2
World

High income Euro area Developing
economies
2010

2011e

China

Mongolia

2012f

Source: The World Bank (GEP, January 2012), NSOM, National Statistics
Bureau of China

Despite all these, we believe that the current demand level in China should still be
considered strong for the Mongolian commodities exports. In our view, Mongolia may
strengthen its market position further in China this year by winning more market share from
its competitors such as Australia and Indonesia through supplying commodities at relatively
cheaper price and due to infrastructure bottlenecks in the respective provinces of China.
Even if a moderate decline in the commodities prices is expected to persist, Mongolia should
benefit from the increase in physical volume of its exports, primarily coal and iron ore.

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31 January 2012

COMMODITIES: BULLISH AMID MODEST GLOBAL GROWTH
Prospects of commodities whether it will be attractive or daunting largely depend on the
performance of the global economy in particular on the ability of the U.S. and China to
successfully support their economies and on the ability of European leaders to come up with
a constructive solution to the Eurozone crisis. However, the uncertainty is that the outlook
for the global economy in 2012 is not strong which if realized might put downward pressure
on commodity prices. According to the IMF, the World Bank and to the median of 70
economist estimates compiled by Bloomberg, the worldwide economy is likely to slowdown
in 2012. Although this is the case, the pessimistic global outlook is not fully reflected in the
forecasted positive commodity prices according to the analysts’ estimates compiled by
Bloomberg. The bullish forecast by the analysts about commodity prices shows the
anticipation that the world in particular the U.S., China and Europe will be able to positively
resolve the economic challenges ahead of them supporting demand for commodities. It is
worth noting that although the analysts in Bloomberg Survey were able to predict correctly
a downturn in commodity prices for 2011 they were off the target for 2010 predictions.
Putting Mongolia into perspective, we think Mongolia as a heavily mineral dependent
economy will remain vulnerable to commodity price fluctuations since mineral exports of
Mongolia constitute the lion’s share, approximately 88%, of total exports. Moreover,
Mongolia’s prospect partially depends on the reasonable budget assumptions about the
price of the key commodities (coal and copper) and China’s ability to engineer soft landing
for the economy.

Commodity Price Forecasts
2010

2011
Actual

Difference

+21.7%

98.83

+13.5%

Forecasted
(median)
100

+48.8%

8,859

7,600

14.2%

8,625

147

+37.4%

135.63

168

+23.8

150

18,375
2,062

24,750
2,454

+34.7%
+19%

23,937
2,375

18,710
1,875

21.8%
21.1%

20,812
2,140

Lead, US$/t

1,874

2,550

+36.1%

2,450

2,035

16.9%

2,250

Gold, US$/t

1,099

1,420

+29.2%

1,426

1,563

9.6%

1,572

Copper, US$/t
Iron Ore Fines 62% FE spot,
US$/t
Nickel, US$/t
Zinc, US$/t

Actual

Difference

94.31

6,450

9,600

107

2012

Forecasted
(median)
87

Crude oil (WTI), US$

Forecasted
(median)
77.5

Hard quality Coking Coal,
*191
*289
US$/t
Thermal Coal Australian
106.03
129.58
Newcastle, US$/t, average
annual
Source: Bloomberg Survey, Steel Index, globalCoal, *BREE, ABARES Australia Japan average contract price

*226

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120


31 January 2012

MINING
Importance of mining industry for the Mongolian economy has been increasing over the last
years. Contribution of mining and quarrying industry to GDP increased 8.7% in 2011
compared to 3.6% in 2010. Even though production of copper, molybdenum, fluor spar, zinc
concentrates and gold declined compared to the last year, the production of commodities
which are the key contributors to GDP increased significantly. Coal, crude oil and iron ore
output rose substantially by 22.6%, 16.8% and 77.3%, respectively, in 2011, according to the
preliminary data provided by the Mongolia National Statistical Office data. It should be
noted that our projection regarding coal output is in line with actual statistics. As we have
forecasted coal production hit all time high of 30Mt in 2011 on the back of strong demand
from China. In 2012 we forecast that Mongolia would produce 38Mt of coal. For the long
term we stick to our view that Mongolian annual coal production will surge to 100Mt by
2020 in a pattern similar to what Indonesia experienced during 1997 2004.
Exports of Key Commodities
2009
Volume
Gold, tonne
Copper concentrate, 000 tonnes
Molybdenium ores and
concentrate, 000 tonnes

10.9
587
6.7

Fluor spar ores and concentrate,
314
000 tonnes
Iron ore, 000 tonnes
1,598.1
Iron ore scrap, tonnes
656
Zinc concentrate, 000 tonnes
150.7
Coal, 000 tonnes
7,113.2
Crude oil, 000 barrel
1,938.5
Source: National Statistics Office of Mongolia

2010
Value,
US$’000
308,473.2
501,923.7
50,308.8

Volume

2011

2010 vs 2011
Volume,
Value, %
%
47
36
0.72
25
12.5
9.8

Volume

5.1
568.7
4.8

Value,
US$’000
178,339.0
770,594.2
51,989.1

2.7
572.8
4.2

Value,
US$’000
113,046.6
963,596.0
46,393.6

48,223.9

405.6

68,824.5

404

94,876.7

0.39

37.9

88,769.5
139.9
122,494.3
306,300.6
115,632.5

3,563.7
1,010.2
119.8
16,726.2
2,070.8

253,825.1
313.9
134,135.3
881,998.3
154,386.1

5,753.1
1,261.9
120.7
21,105.6
2,540.5

437,328.3
512.0
142,678.4
2,250,046.4
252,191.8

61.4
24.9
0.8
26.2
22.7

72.3
63.1
6.4
155.1
63.4

Mongolia Dwarfs Australia in Coking Coal Exports to China
As we have identified in our Mongolia Outlook 2011, coal exports surpassed copper exports
in monetary value by US$111.4mn in 2010 for the first time in Mongolian export history. In
2011 value of coal exports exceeded that of copper 11.5 times or by US$1.28bn. Moreover,
in 2011 another important milestone was achieved as Mongolia overtook Australia as the
largest exporter of coking coal to China. In just three years Mongolia emerged from being a
minor to a major coking coal exporter to China. We estimate that in 2011 Mongolia met
approximately 38% of China’s coking coal imports demand. The main reasons for China
increasing its coking coal imports from Mongolia are big price difference (more than 2 times)
between seaborne market supplied coking coal and Mongolian coking coal, transportation
bottleneck in China to bring coal from coastal areas to developing regions in the north and
extreme flooding in Australia that decreased coking coal supply from Australia. Looking
forward we anticipate that Mongolia will likely strengthen its position in China’s coal
imports.

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31 January 2012

China’s Coking Coal Imports by Source

2009

Others
13%

2010

2011E

Mongolia
12%

Canada
9%

Mongolia
32%

Others
24%

Mongolia
38%

Others
31%

Canada
7%

Australia
66%

Australia
37%

34.5Mt

47.3Mt

Canada
6%

Australia
23%

55.19Mt*

Source: China Customs data, Statistics Offices of Australia, Canada and Mongolia, *Eurasia Capital estimates

Mining IPOs Not As Dynamic As in 2010
In 2011 mining IPOs were not as dynamic as in 2010. There was only one full fledged IPO on
ASX made by FeOre Ltd (FEO:AU), a Mongolia focused iron ore explorer, that has started
trading on December 15, 2011 after raising A$35mn. Another Mongolia focused exploration
company, Kara Minerals, was planning to raise A$20mn through IPO on ASX and start
trading in early December 2011. However, the company has withdrawn its application from
ASX without being able to generate enough interests in the offering, in our view. Kara
Minerals Ltd. was incorporated in Australia to acquire and develop Nasryn Hundlun Tin
Project in north east of Mongolia. Guildford Coal was also considering listing its unit, Terra
Energy, on ASX. A float is still under consideration in 2Q2012. In 2011 several companies
came to the market through a reverse takeover of Mongolian assets (exploration licences).
These companies, Draig Resources Ltd. (former C@ Ltd), Modun Resources Ltd. (former TVN
Corp. Ltd), UTMI (former Wedge Energy International Inc.), Mongolian Resources Corp. Ltd
(former Alamar Resources Ltd) and Kincora Copper Ltd. (former Brazilian Diamonds Ltd.), are
currently trading on stock exchanges in Australia and Canada.
Much anticipated IPO of Erdenes Tavan Tolgoi, the state owned enterprise that holds the
mining licence for the world’s largest untapped coking coal mine, didn’t take place in 2011
as it was expected. Early in July, the Government announced that it has selected China’s
Shenhua Energy Company, U.S. Peabody Energy Corp. and Russian Mongolian consortium to
develop the Western Tsankhi area of the Tavan Tolgoi deposit. However, due to the public
pressure and dissatisfaction among the bidders over the selection process as well as refusal
by the National Security Council, the Government had to backtrack on the deal. Complex
and opaque process caused considerable concerns among investors over the Government’s
ability to successfully finalize the deal. Later the Government resumed negotiations with all
bidders and announced that Erdenes Tavan Tolgoi may raise more than US$3bn in IPO on
the Mongolian and London Stock Exchanges by July 2012. In our view, the government
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31 January 2012

anticipates that it will be able to do the IPO of Erdenes Tavan Tolgoi in 2012 since it has
already included the prepayments from the deal in the 2012 budget. We are slightly
cautious about the government’s ability to successfully launch the IPO this year taking into
account upcoming parliamentary elections and uncertainties in global markets.
Political Maneuvering Triggered by Elections
In September 2011 twenty MPs and several lawmakers demanded the coalition government
to reconsider existing agreement on the Oyu Tolgoi mine by requesting to increase
Mongolia’s stake in the project to 50% from 34%. However, Rio Tinto and Ivanhoe Mines
refused to accept proposed amendment to the agreement. This situation gave a warning
signal to international investors indicating that Mongolia could be an unstable country to
invest. As a result the share prices of international mining companies with operations in
Mongolia tumbled significantly on the back of this news. Fortunately, for the benefit of
investor community and Mongolia as whole, the coalition government issued a joint
statement with the two mining companies in which it reaffirmed its commitment to the
existing investment agreement. We view that request for renegotiation of investment
agreement was politically driven amid the forthcoming parliamentary elections in June 2012.
Looking forward we see the risk that ahead of upcoming elections similar unusual requests
might make the country go through turbulent times. Nevertheless, even though Mongolia,
similar to other countries, is sensitive to such kind of events, we think that the government
is acting in the public interest and taking pragmatic approach to manage the challenges.
New Exploration Licences Still Not Granted
Temporary suspension of granting new exploration licenses set in 2010 was not lifted in
2011. Instead government agencies were cleaning holders of exploration and mining
licences from companies that were violating the laws. The State Specialized Inspecting
Agency (SSIA) has shut 73 mining companies down that were operating illegally near the
river and forest basins. Majority of closed companies were small illegal gold mining
companies. The ban on granting new exploration licences is expected to be effective until
the government passes a new law on mineral resources. Moreover, the government intends
to reduce total area of Mongolia covered by exploration licences from today’s 17% to 10%.
As of November 25, 2011 there were 3,763 active exploration and mining licences in
Mongolia.

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31 January 2012

BANKING
Representing the Booming Economy
Mongolian banking sector expanded a record pace of 50.1%, compared with 41.2% in 2010,
along with the rapid expansion in the economy. Large FDIs particularly in the mining sector
and the consequent increase in commodity export income had significant positive impact on
the whole economy. Goods and services industries benefited from increased demand from
households, growth in state and corporate investments, and strong corporate and individual
income boosted tax revenue to the budget. The banking sector assets surged to
MNT9,372bn (US$6.7bn) and bank assets to GDP ratio reached to the new height of 86.5%,
clearly representing the booming economy.

Bank Assets and Growth

Assets/GDP Ratio, %

10,000

60%

100%

8,000

50%

80%

40%

6,000

30%
4,000

20%

2,000

10%
0%

0
2007

2008
2009
Assets, MNTbn

2010
2011
Growth, %

Source: The Bank of Mongolia, Eurasia Capital

87%
74%

67%

74%

56%

60%
40%
20%
0%
2007

2008

2009

2010

2011


Current accounts (CAs) and deposits grew 30.2% and 40.0% in 2011 compared with 109.5%
and 49.5%, respectively, in 2010. Combined growth of 36.5% to MNT5,739bn in CAs and
deposits created half of the sector growth.
Other capital sources grew more than CAs and deposits in 2011. Loan from the banking
sector increased 61% (77% of this growth came from the central bank) to MNT672bn
supporting sector wide growth by 4.1%. Foreign liabilities grew 54.4% to MNT688bn and
government deposits surged 120.6% to MNT932mn, each supporting sector growth by 3.9%
and 8.2%, respectively. Together with shareholders’ equity growth of 77% to MNT677bn and
other liabilities growth of 78.3% to MNT662bn, all the “non CAs and deposits” capital
sources contributed to the other half of growth in 2011.
It should be noted that there was an extraordinary increase in each of loans from the Bank
of Mongolia, foreign liabilities, and government deposits in December because of the
competition among the banks to show higher year end asset numbers in their balance
sheets.
XacBank announced its plan to sell US$300mn bonds on Euro Medium Term Note
programme in international markets. The bank plans to raise up to US$150mn within the
programme in 2012. This has been in line with our general expectation that the banks will

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31 January 2012

seek access to foreign capital markets primarily through bond deals and private equity to
increase capacity to provide long term loans. The banks were also able to add MNT86.5bn
into their equity last year.
The large state budget had its place in the banking sector balance sheet having 120% higher
figure compared with the previous year. In monetary terms, the government deposit
increased by MNT509bn to MNT932bn representing almost 10% of the sector asset sources.

CAs and Deposits, Growth and Share in Assets
8,000

Banks Financing Sources 2011
80%
Current Accounts

60%

6,000

7%
7%

40%

21%

4,000
20%

0

8%

20%
2007

2008

2009

2010

2011

CAs and Deposits
CAs and Deposits % in Assets
CAs and Deposits Growth, %


Liabilities to the Banking
Sector
Foreign Liabilities

10%

0%

2,000

Deposits

7%

Government Deposits

40%

Equity
Others


The domestic loan demand was very strong during 2011 and is expected to continue
growing the following years. Total outstanding loans jumped 73.4% y o y to MNT5,598bn
which was 59.7% of total assets at the end of 2011. As the sector wide loan quality,
measured by past due in arrears and non performing loans (NPLs) ratios, significantly
improved in 2010, the banks started loosening credit policy from the beginning of 2011.
During 1H2011, the total outstanding loans increased 40% (5.8% per month) or by
MNT1,289bn.
The global financial market uncertainty during 2H2011 had a negative effect on the MNT
performance, export income and FDI inflow, thus eventually raising risk aversion of the
banks. New loans granting speed observably slowed from July. During 2H 2011 new loans
increased only 24% (3.6% per month) or by MNT1,080bn.
The Bank of Mongolia raised reserve requirement ratio from 5% to 9% in February and
further to 11% in August last year against surging inflation. However, as the banks had
plenty of reserves, this tool didn’t effectively work to slow loan growth. The central bank’s
only effective tool was policy rate, in our view, and therefore, the already high rate was
further raised three times by 50bps to 11.5% in April, by 25bps to 11.75% in August, and by
50bps to 12.25% in October.

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31 January 2012

Loans, Growth and Share in Assets

Reserve and Liquidity Ratios
80%

6,000
5,000

60%

4,000

60%
50%
40%

3,000

40%

2,000

20%

1,000

30%
20%
10%

0

0%
2007

2008
2009
2010
2011
Outstanding Loans, MNTbn
Loans/Assets, %
Outstanding Loans Growth, %

Source: Bank of Mongolia, Eurasia Capital

0%
2007

2008

2009

2010

2011

Reserve, Cbills/CAs and Deposits, %
Liquidity Ratio, %*
Source: Bank of Mongolia, *Eurasia Capital Estimates

In line with our expectation, past due in arrears and NPLs ratios improved throughout the
year, the former dropping to historical low of 1.3% and the latter substantially down to 5.8%
at the end of 2011. In absolute terms, these sub loans declined 17.3% and 11.8%,
respectively.

NPLs and Past Due in Arrears Ratios
17.4%

20%
15%
10%

5.8%

5.8%
3.3%

5%
2.4%

4.6%

2.0%

1.3%

0%
2005

2006

2007

NPL/Loans, %

2008

2009

2010

2011

Past Due in Arrears/Loans, %

Source: Bank of Mongolia, Eurasia Capital

Market Bet for MNT
The currency structure of CAs and deposits give us some notion regarding the market bet on
the currency rate. Domestic currency CAs and deposits soared 48.3%, y o y. Its share in total
CAs and deposits increased to 70% while foreign currency CAs and deposits increased only
15.3% y o y and its share down to 30%.

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31 January 2012

Respective weighted average annual rates 10.5% and 2.8% on MNT denominated CAs and
deposits against 4.5% and 1.1% on US$ denominated CAs and deposits, at the end of 2011,
show the attractiveness of holding assets in MNT. Throughout 2011, individuals and
corporate entities preferred holding their money in MNT as they were betting on MNT
appreciation, though the local currency had steadily lost against US$ during 2H2011. The
MNT depreciation during 2H 2011 didn’t clearly show dragging impact on the MNT
denominated CAs and deposits’ growth.

Currency Structure of CAs and Deposits
100%
80%
60%

67%

62%

61%

64%

70%

33%

38%

39%

36%

30%

40%
20%
0%
2007
2008
Foreign Currency

2009
2010
Domestic Currency

2011


The Blanket Guarantee Law on CAs and deposits approved in 2008 expired in January 2012.
The Bank of Mongolia, the Financial Regulatory Commission and the Ministry of Finance had
developed a commercial deposit insurance law during the last two years. As we projected a
year ago, the law was not approved in 2011 and the parliament is currently discussing the
law. We expect the law will be approved this year and it will serve for the sector
development in the long term.

Record Earnings
2011 was a golden year for the banking sector. It counted 2.8 times larger net earnings
compared with the previous year. The sector wide net earnings summed to MNT184.3bn,
the central bank numbers show. The profitability of the sector gauged by ROA and ROE
ratios peaked to the top rates of our reference period of since 2003. These ratios peaked to
2% and 27.2%, respectively, last year.
During the past financial crisis the sector netted MNT210bn cumulative loss in 2008 2009,
which was mostly cost of the bankruptcies of two banks Zoos and Anod.

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31 January 2012

Record ROA and ROE

Largest 10 Banks By Outstanding Loans (2011, MNTbn)

40%
20%

27%
17%

15%

0%
20%

2007

2008

2009

2010

2011

20%
40%
ROA, %

60%
80%

1,600
1,400
1,200
1,000
800
600
400
200

62%


ROE, %


2012 Outlook: Will Hopefully Manage Well
We expect the banking sector to expand about 30% this year. We believe this growth
estimate is reasonable based on our economic growth target, inflation and MNT forecasts,
and FDI expectation. On one hand, highly expansionary state budget and anticipated fund
raising by the banks from the international capital markets may cause the sector to see
higher than our estimated growth. On the other hand, heightened inflation fueled by the
budget would possibly drag the growth of the sector through lower capital inflow.
We expect that the market will remain betting on MNT in 2012 as we retain our long term
bullish outlook on the local currency and target 1,300 MNT/US$ rate. In our view MNT
denominated CAs and deposits’ share in total will stay stable at 70% and the balance will be
on foreign currencies.
Annual rates on CAs and deposits are likely to remain stable, we believe, as the banks have
plenty of reserves in cash in Central Bank accounts (12.2% of total assets at the end 2011),
Central Bank bills (9.4% of assets), assets deposited abroad (7.6% of assets), and
government bonds and stocks (5% of assets). Therefore, the banks will not fiercely compete
for capital by raising deposit rates, in our view. On the contrary, tightening monetary policy
and heightened inflation expectation would possibly push the banks to raise rates. The Bank
of Mongolia raised the liquidity ratio requirement for banks to 25% effective from January
2012.
Due to the short term nature of banking sector liabilities (CAs and less than one year term
deposits), the banks must seek access to long term capital available in the international
capital market. XacBank intends to issue US$150mn of its planned US$300mn Euro Medium
Term Notes in Singaporean Stock Exchange this year. We may see that the largest two banks
also contemplate to tap into the bond market. Golomt Bank received the debut ratings from
Standard & Poor's and Moody’s in November 2011 that may indicate preparation for bond
issuance.
In 2011, the Bank of Mongolia resolved that the equity capital adequacy ratio will be raised
from current 12% to 12.5% on June 30, 2012, to 13% on December 31, 2012, and further to
14% on June 30, 2013. In addition, the banks have to increase their equity capital at least to
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31 January 2012

MNT16bn by May 1, 2013. Meeting the absolute equity requirement does not pose a
problem for most of the banks. However, increased capital adequacy requirement and sharp
sector expansion will inevitably force the banks to go public in the coming years. We view
that the banks will try to raise capital in private equity deals this year, and starting from the
next year they will seek opportunities for possible IPOs. We recall that earlier in 2010, the
CEO of Golomt Bank stated that the bank may go public on an international stock exchange
in 2012.
We estimate 40% more new loans to be granted in 2012 taking into account of continued
strong demand, significant reserves of banks, capital growth as supporting factors.
Meanwhile inflation threat and the expected more tightening monetary policy from the
Bank of Mongolia will still be present. The Bank of Mongolia has been increasing reserve,
liquidity and capital adequacy requirements and policy rate decline is unlikely this year. It
appears that interest rates are not likely to decline in 2012.
Loan quality will further improve, in our view. Loans in arrears rate already at the record low
level, and we anticipate this to remain stable. Non performing loans ratio was markedly
down from 11.5% to 5.8% as of the respective 2010 and 2011 year ends, and we expect to
see further improvement on the ratio, smoothly declining below 5%.
2011 was a golden year for the Mongolian banking sector as it counted record profits. The
local banks will do well again this year, based on our belief that the banks will not raise rates
offered for capital, loans interest rates will not decline and loan repayment will further
improve.

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31 January 2012

ASSET CLASSES
Local Equities: Second Best Performing Market Globally
MSE Hit the Target
In line with our projections that the Mongolian equity market will be among the world’s top
three best performing markets, the MSE closed 2011 as the second best performing market
globally. The market benchmark, the MSE Top 20 Index, surged 46.9% (32.3% in US$ term)
to 21,687.57. This is higher than our initial target of 20,000, +40% growth estimated in our
2011 outlook.
The MSE Top 20 Index outperformed developed and emerging markets, while the S&P 500
Index remained flat, and MSCI EM Asia and MSCI Frontier indices lost 19.1% and 22.1%,
respectively.
MSE Top 20 Index Performance 2011

MSE Top 20 vs Global and Regional Benchmarks

34,000

20,000

30,000

250%

15,000

22,000

10,000

18,000

200%

MNTmn

26,000

MSE Top 20
MSCI EM Asia
S&P 500
MSCI Frontier

150%

5,000

14,000

100%
Dec 11

Source: MSE, Eurasia Capital

Dec 11

Nov 11

Oct 11

Sep 11

Jul 11

Aug 11

Jun 11

May 11

Apr 11

Mar 11

Jan 11

Top 20 index

Feb 11

Top 20 Trading Volume (MNTmn)

50%
Dec 10

Oct 11

Nov 11

Sep 11

Jul 11

Aug 11

Jun 11

Apr 11

May 11

Feb 11
Mar 11

Jan 11

10,000


MSE market cap reached MNT2,168.6bn (US$1,554.5mn) at the end of 2011 adding
MNT794.6bn (US$570mn) in total during the year. Shortly after exceeding US$1bn threshold
first time in mid November 2010, MSE market cap almost tripled in three months hitting
US$2,829.5mn at the peak on February 25, 2011. However, the market declined till the end
of May. The total equity trading volume at the MSE was MNT109.1bn (US$78.2mn) last year,
28.2% higher compared with 2010.
MSE Market cap, US$mn

MSE Stock Trading Volume, US$mn

3,000

US$mn

2,500
2,000
1,500


www.eurasiac.com

Dec 11

Nov 11

Oct 11

Sep 11

Aug 11

Jul 11

Jun 11

May 11

Apr 11

Mar 11

Feb 11

Jan 11

1,000

90
80
70
60
50
40
30
20
10

78
53

16

11

2006

50

47

2007

2008

2009

2010

2011


26


31 January 2012

Bubble and Burst
MSE experienced significant volatilities last year due to low liquidity, increased awareness of
the market, new development initiatives and international financial market turbulences.
Rush to take exposure as early as possible created a bubble in the MSE pushing the Top 20
Index up 123.3% to 32,954.97, within less than two months at the beginning of 2011. The
2010 global outperformance of the MSE (138.4%), the London Stock Exchange (LSE)’s
strategic partnership agreement and the Master Service Agreement to modernize the MSE
and the country’s stock market as a whole combined with positive general economic outlook
loudly signaled about the opportunities of the market. Furthermore, the government
announced that 10% common shares of Erdenes Tavan Tolgoi (ETT) will be distributed to
every Mongolian citizen in 1Q2011 raised awareness of the market among the Mongolian
people and foreign investors. Though the total market capitalization gained US$1.7bn during
this period, an average daily volume was only US$230,000.
During three months till the end of May following the peak, the index went through
significant correction and lost 43.8% to 18,534.23 on an average daily volume of
US$330,000. The international financial market slide and increased volatility started from 2Q
further worsened through the remainder of the year which had a freezing impact on the
cash inflows from foreign investors. During the second half of the year, the index ranged
between 18,000 and 22,000 while the average daily volume further improved to
US$370,000.
Our 2011 Calls Played
The top 5 companies of the exchange together with other two big gainers comprised over
80% (US$511mn) of the total market gain (US$570mn) in 2011. Tavan Tolgoi (TTL) and APU
(APU) hit our 2011 targets. TTL, the largest cap stock of the bourse, surged 91% and APU,
becoming the second largest, jumped 111.1% supporting the market expansion by
US$198mn and US$118mn, respectively. However, Mongolia Development Resources
(MDR), a real estate play, declined 22.3%.
The third and fourth largest stocks of
Main contributors to MSE 2011 Growth
the bourse, Baganuur (BAN) and
Shivee Ovoo (SHV) advanced at
16%
relatively moderate rates of 24.8% and
4%
35%
17.7% adding US$39mn and US$22mn
4%
to their market caps, respectively. The
5%
other two big gainers were Berkh Uul
7%
(BEU) which contributed US$50mn,
9%
20%
the third biggest, to the market cap as
its share price soared over 24 times
from a year earlier level and UB BUK Source: MSE, Eurasia Capital
(BUK) which contributed US$23mn as it grew over 6 fold.

Tavan Tolgoi
APU
Berkh Uul
Baganuur
Sharyn Gol
UB BUK
Shivee Ovoo
Others

Our belief that the Mongolian stock market had been well undervalued has been proved by
the spectacular growth for the past several years. The investors who understood the real
opportunity in the market counted tremendous performance in their portfolios again in
www.eurasiac.com

27


31 January 2012

2011. The high performance of the blue chip large cap stocks was supported by the factors
that first, these were fundamentally undervalued and second, they have strong growth
outlook. We view that the valuations of some large cap stocks have reached the bottom of
their reliable intrinsic value ranges considering their fundamentals, growth outlooks and, as
well as the market and individual company risks. We believe that the downside risk in the
market is limited as the Mongolian economy expanded 17.3% last year and is expected to
speed up further this year and to remain as the world’s fastest growing economy for several
years to come.

MSE Top 20 Companies Share Performance 2011
50%
Bayanteeg
Suu
Talkh Chikher
Mogoin Gol
Remicon
APU
Tavan Tolgoi
Hotel Mongolia
Bayangol Hotel
BDSec
State Department Store
Baganuur
Shivee Ovoo
Sharyn Gol
Khukh Gan
Genco Tour Bureau
Gobi
8%
Mongolia Development Resources 22%
Mongolian Telecom 23%
Aduunchuluun 25%

0%

50%

100%

150%

200%

250%

300%

350%

400%

450%
414%

210%
184%
163%
144%
111%
91%
61%
50%
40%
35%
25%
18%
8%
7%
0%


“Hidden Jewels” Being Exploited
Many small caps grew at skyrocketing rates emerging from very low bases. In 2011, 54 small
caps out of the total listed 334 (MSE) companies surged more than 100%. The average share
price growth of these 54 companies was 1,600% (median 491%), ranging from 107% to
28,010%. The combined market cap of these “hidden jewels” increased by MNT184bn
(US$130mn) to MNT215bn (US$154mn) from a year earlier level of only MNT31bn
(US$25mn). Most of them are industrial, consumer goods and mining plays.
The tremendous growth is attributed to the following factors:
The balance sheet assets were significantly undervalued or asset book values were
much lower than the market values or replacement costs,
Profits are hidden. The fundamental problem of accounting misreporting peculiar to
frontier and early emerging markets is common in Mongolia. The belief that the
accounting issues will be resolved leading to realization of hidden profits is one
factor which supported the performance.

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28


31 January 2012

Speculation. It should be noted that there is a speculation component with the
general view that the market is undervalued and the Mongolian corporate sector
has very positive prospects.
We believe there are certainly a number of “hidden jewels”, however, investors should be
mindful of the risks to explore and exploit them. The inherent risk of low liquidity of the
market must be noted. The US$130mn market cap growth of these small caps was
generated only on US$4.1mn total annual trade volume.

2011 MSE Top 10 Performers
0%

Top 10 New Million $ Companies

10000%

20000%

APP (Sudut)

30000%
28010%

Teever Darkhan

13014%

Tav

10917%

Ar Bayankhangai

3221%

0

1

Market Cap, US$mn
2
3

4

5

APP (Sudut)
Teever Darkhan
Gutal
Tav

Berkh Uul

2447%

Khereglee Impex

2148%

Sor

USIB

2014%

Agro Tech Impex

Ikh Barilga

1650%

Nekheesgui Edlel

Mongeo

1513%

Darkhan Hotel

2010 Market Cap

1338%

Bukhug

2011 Market Cap

Khusug Trade


Ikh Barilga


MSE Fund Raising Activity Improving and New IPOs Expected in 2012
We expect a number of additional share offerings and few IPOs in 2012. Several currently
listed companies and private companies submitted their IPO and additional offering
documents to the Financial Regulatory Commission (FRC) for approval. Three companies
received approval from FRC for additional share offering last year.
On August 9, Silikat (SIL), an operator of light concrete plant in Darkhan city in Mongolia,
successfully raised MNT3.65bn (US$3mn) issuing additional 16.2mn shares at MNT225 per
share.
On October 17, one of the blue chip coal stocks of the MSE, Sharyn Gol (SHG) completed
MNT18.3bn (14.2mn) fund raising additionally offering 1.65mn or 16.2% of its shares at a
price of MNT11,117 per share. This was the first capital raising by a mining company on the
MSE and one of the largest. New York based Firebird Management’s funds acquired a
controlling stake of the company in 2010 and SHG carried out additional exploration worth
US$5mn in that year. In February, 2011, SHG released the new JORC compliant resource of
373.8Mt of thermal coal.
Remicon (RMC), which operates concrete mixture plant in Ulaanbaatar, received approval
from the FRC on its planned MNT7.5 9.4bn (US$5.4 6.7mn) secondary offering in December
and currently collecting orders.

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29


31 January 2012

New IPOs and more additional fund raisings are expected in 2012. As we reported last year
the Mongolian Government approved a list of State Owned Enterprises (SOEs) that are
slated for privatization; these are entities in mining, mineral processing, power generation
and distribution, construction materials, telecom and transportation. The leaders among
these expected privatizations we closely watch in 2012:
Erdenes Tavan Tolgoi (ETT): The Mongolian government has planned to float up to
30% of the shares of ETT, who holds world’s largest untapped coking coal deposit,
on the LSE and MSE within 1H2012. 10% of common shares were already distributed
to all Mongolian citizens without charge in April, 2011. Another 10% should be sold
to Mongolian companies according to the parliament resolution in 2010. However,
the parliament is currently discussing whether to sell that 10% to Mongolian
companies or to distribute it additionally to citizens.
Mongolian Railway: In May 2011, the government announced that it had decided to
raise the required fund for the construction of government’s planned new 1,100km
railroad selling 49% of Mongolian Railway LLC on the MSE. The enterprise was
established in 2008 with the intention to construct, own and use the railroads which
will be built according to the state policy. And, now it is building the 1,100km
railroad from South Gobi to the eastern border of Mongolia, in accordance with the
state policy approved in 2010. The project cost is estimated to be US$2 3bn. We
view that after the Erdenes Tavan Tolgoi IPO, the state priority will shift to this
project though the time requirement for the project would possibly be longer than a
single year.
Baganuur: In 2010, the government approved Baganuur’s (MSE: BAN) additional
share offering in the market by 2012. The company started the tender process to
select technical and financial advisors for the project in October, 2011. The size of
the offering is expected to be about 24% of the total shares.
LSE and MSE Strategic Partnership Evolving
In April 2011, Mongolia took a historically important step to develop its capital markets as
the State Property Committee of Mongolia (SPC), MSE and London Stock Exchange (LSE)
signed the landmark Master Service Agreement (MSA) to develop the MSE. The three
institutions agreed on the details of modernizing the MSE with the support by the LSE during
the next three years.
According to the service agreement, the LSE will assist the MSE to introduce an integrated
securities trading system, create effective legal environment, bring the infrastructure,
technology, and help upgrade human resources capability in line with the international
standards appointing a management team at the MSE.
Since the agreement was signed, the LSE team together with the MSE and SPC has made an
important progress in the areas of sector legal environment improvement, internal
restructuring of the bourse, and professionals education. These include:
Securities Market Law development: The restructured MSE led by the LSE team
together with other sector regulatory and participatory organizations have
developed new Securities Market Law and submitted to the Ministry of Justice for
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30


31 January 2012

the review on September 1, 2011. The new law defines custody services and enables
set up of custodians, nominee and omnibus accounts, trading and settlement of
Depository Receipts. The law is expected to reduce legal conflicts. These
amendments and revisions introduce international standards and are in line with the
strategic partners’ plan to transform the securities settlement system of the MSE
from current T+0 to T+3 which is standard in developed countries.
MSE Rules and Regulations: The revised trading rules, membership rules are already
approved, and listing rules, clearing & settlement rules are at the stage of approval.
As the MillenniumIT system is installed in the MSE, the appropriate international
standard trading and clearing & settlement rules are being developed.
MillenniumIT: The system is completely installed by December, and the market
professionals are currently exercising on trial trading.
Training: The Academy of the LSE has carried out training programs for regulators,
market participants and other stakeholders in UB and London during the last year.
The major developments investors should expect to see in the Mongolian securities market
and MSE in 2012 include:
New Market and Trading Structures: MillenniumIT system will start officially and
T+3 settlement cycle will replace T+0. Custodian services will be introduced, and
Mongol Bank will start operating as a settlement bank, trading and clearing
members will be registered. Minimum capital, financial and risk requirements for
those participants will be re regulated. The Settlement Guarantee Fund (SGF) will be
funded and enhanced.
Listing and Membership Fees to Change: The MSE plans to change the initial listing
and annual membership fees based on the market cap rather than nominal volume.
They expect it will serve as an incentive for new companies to raise money listing on
the exchange.
Lower Trading and Settlement Fees: Currently the trading and settlement fees are
very high compared with other international markets, and the MSE proposes to
decrease the fees by 50% in 2012. As liquidity increases over time, the fees will be
lowered to international levels, and be based on transactions not on monetary
volumes of trades. The development will support the market liquidity making the
market more attractive for international and domestic investors.
Erdenes Tavan Tolgoi Listing: This will have significant direct and indirect impact to
increase market size and liquidity attracting local and international investors.
The MSE plans to improve corporate governance and transparency of the listed companies
from this year. The new Company Law approved in October 2011 inserted many new
concepts on corporate governance and transparency. We believe the law will support the
securities market development.

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31


31 January 2012

2012 Outlook
We remain bullish on MSE listed equities in 2012. We expect the Mongolian equities to
benefit from increased capital inflows and estimate the MSE TOP 20 Index to
reach 28,000 by the end of this year, or +30% gain for 2012. We favor small caps that will
outperform the index due to high growth of their businesses buoyed from low base effect
and attractive valuations. We anticipate more IPOs and secondary offerings of Mongolian
companies, both domestically and internationally, especially much anticipated jumbo IPO of
Erdenes Tavan Tolgoi. Therefore, we strongly recommend our clients to invest in the
Mongolian local equities as the most effective way to gain exposure to the Mongolian
growth story. Our top picks for the next 12 months are Tavan Tolgoi (coking coal), APU
(beverages), Remicon (construction materials) and Mongolia Development Resources
(property).
The pace of the upward move measured by the performance of the TOP 20 companies will
be at a slower pace than the last year. Because first, the market has already come out of the
low base and second, we view that the valuation of some large cap stocks have come into
the their reliable intrinsic value ranges considering their fundamentals, growth outlooks as
well as market and individual company risks. In our view, the downside risk is limited as the
market has already reflected the significant correction since March 2011.
We note that Mongolian stock market still remains illiquid and any inflow or outflow of hot
money may significantly move the market up or down, as was the case in both 2010 and
2011. Erdenes Tavan Tolgoi’s IPO is expected to create crowd in the market. The MSE
schedules to implement the public education programme during the year as all Mongolians
are now shareholders of Erdenes Tavan Tolgoi.
Flow of funds from foreign individual and institutional investors into Mongolia is projected
to intensify starting from 2H2012. We expect within 1H2012 the European crisis situation
will stabilize and Erdenes Tavan Tolgoi IPO will take attention of international investors into
Mongolia.
Although the market liquidity is currently low, it is likely to improve as new IPOs and new
investors are expected to come into the market. In addition, the “Hidden Jewels” (small cap
non resources sector companies) on the MSE will be further explored. The renovation and
development measures at the MSE including start of MillenniumIT system, T+3 settlement,
custodian services establishment, improvement in listing and membership fees and 50%
decrease in trading commission are all to support the liquidity and attract new investors.

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32


31 January 2012

We target the SILKMN index to reach 1,330 (+20% growth) in 2012, to be somewhat weighed
down by expected subdue share performance of Ivanhoe Mines, the largest component of
SILKMN index. Mongolian Mining Corp. (coking coal), Prophecy Coal (thermal coal, power),
Entrée Gold (gold) and Erdene Resource Development (molybdenum and coal) are our top
picks among the SILMN index companies. We advise investors to snap up the most beaten up
stocks as the companies’ strong fundamentals and value of their resource assets become
more apparent.

www.eurasiac.com

33

Dec 11

Oct 11

Nov 11

Sep 11

Jul 11

Jun 11

Apr 11

May 11

Jan 11

Feb 11
Mar 11

Dec 10

Oct 10

Nov 10

Sep 10

Jul 10

Aug 10

Jun 10

Apr 10

May 10

Feb 10
Mar 10

Financial turbulences and debt crisis in
Silk Road Mongolia Index
Euro zone sent down emerging market
1,880
stocks significantly. Mongolia linked
1,780
internationally listed companies have
1,680
also suffered along with other emerging
1,580
markets companies. Total market
1,480
capitalization of Silk Road Mongolia
1,380
Index (SILKMN) which tracks 32
1,280
Mongolian companies was US$25.91bn
1,180
in 2011 and the index is down 27% y o
1,080
y. Silk Road Hong Kong Index (SILKHK),
980
includes 10 Hong Kong listed Mongolia
880
focused companies, is down 51% y o y.
Ivanhoe Mines, Centerra Gold and
Mongolian Mining Corp., the largest
companies by market capitalization in
Source: Silk Road Management
SILKMN index are down 22.9%, 10.2%,
35.6% y o y, respectively. The main reasons behind the drop of share prices of the SILKMN
index companies are, in our view, the overreaction by the investment community to the
economic events occurring globally and, to some extent, their response to company specific
events. However, thanks to strong demand by China for the Mongolian resources, sound
fundamentals of the companies and while the global markets stabilize, we believe that
internationally listed companies with operations in Mongolia are poised to experience
recovery in 2012.

Aug 11

International Equities


31 January 2012

Mongolian Tugrik
We maintain our long term bullish
MNT and Current Account (2011)
view on the MNT while short term
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec
volatilities may occur in 2012. Our call
1450
made on January 31, 2011 that the
186
1,396.37 1400
500
MNT
may
repeat
global
outperformance
and
continue
1350
1,000
appreciating another 10% in 2011
1300
1,500
played out partially. The currency
strengthened 5% to MNT1,195 per US$
1250
2,000
1245.5
through April 1 after which it has
2,500
2,421 1200
weakened 16.8% by end 2011 to
MNT1,396 amid expanding current
1150
3,000
account deficit to US$2.4bn (end
Current account, $mn (cumulative) (LHS)
MNT/US$ (end month) (RHS)
2011) fuelled primarily by more than
expected increase in imports of capital
Source: Mongol Bank, NSOM, Eurasia Capital estimates
goods for mining projects. The
currency depreciated 11.1% y o y in 2011. The commercial banks experienced demand
pressure for the US$ amid accelerated imports that exceeded export revenues. The current
account deficit reached its record level of US$2.4bn by end 2011. The central bank that
follows the flexible exchange rate regime has not intervened in the foreign exchange market
and supplied limited amount of foreign currencies in the market. This resulted in
accumulation of international reserves in the central bank a record level of over US$2.3bn at
the end of 2011.
We expect the MNT to experience volatility this year. Our target for the currency is 1,300
per US$ that represents approximately 7% appreciation in 2012. On one hand, there is a
possible downside risk caused by further acceleration in imports for the development of key
mining projects, including Oyu Tolgoi copper gold and Tavan Tolgoi coal mines as well as for
building the major transport infrastructure. For example, import of trucks surged 177% to
US$578mn last year. Expected high prices for petroleum products (petrol, diesel fuels) that
represent over 16% Mongolia’s total imports and whose value jumped 68% last year (to
US$1,052mn in 2011 from US$626mn a year earlier) may also increase the pressure on the
downside. On the other hand, the national currency should expect some strength supported
by ramp up in exports by key coal producers and inflow of foreign investments.
Assuming that international prices for the country’s major export commodities – coal and
copper – are expected to stay firm in 2012, and demand in China remains firm, the
Mongolian economy should benefit from increase in physical volume of their exports,
especially that of coal. We estimate that the coal exports may increase at least 40% y o y to
30 million tonnes in 2012 (from over 21 million tonnes in 2011) easing the downside
pressure on the currency.

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34


31 January 2012

In addition, we expect the central bank will likely intervene in the foreign exchange market
to stem high inflation as political stress rises amid the June 2012 Parliamentary elections.
We already see growing critics from the members of the Democratic Party, which withdrew
from the coalition government this month, to seek more support from the voters as the
elections approach. The democrats blamed the central bank that the high exchange rate of
the US$ has affected fuel prices and, consequently other consumer goods that caused
concerns among the people. Therefore, in our view, the central bank sold relatively large
amount of US$ in the market to ease the accelerated depreciation of the MNT in January
this year.

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35


31 January 2012

Fixed Income
Positive outlook is expected in 2012 for government bonds, certificates of deposits (CDs)
and term deposits in major commercial banks in Mongolia. We view that in 2012 the
government of Mongolia will further utilize debt markets both domestically and
internationally for development in mining, construction of roads and houses, as well as to
support social spending. The issuance of dollar denominated government bonds will
accelerate the process to tap global international debt markets. It is currently unclear that
the upcoming year will be successful for corporate bonds as they continue to undergo the
test period started in 2011 with the Meat Bond offering. CDs and term deposits of major
banks in Mongolia will continue offering attractive investment opportunities with high
interest rates.
The last year experienced relative improvement in government bond figures backed by
confidence in Mongolia’s expected growth. Primary bond sales increased over 7.867 times in
nominal terms year over year with a total amount of MNT236.73bn (over US$169mn) in
2011, although there was significant slowdown in later offerings. During June through
August, the government offered bonds to finance the long term housing loan program for
4,000 government officials, and nearly MNT65bn was successfully sold out of the MNT72bn
offer. The Mongolian government announced MNT300bn bonds issue in several offerings
starting from August, to support cashmere, wool industries, and small and medium
enterprises (SMEs). Though nearly MNT172bn of the issue was traded, further sales in
October and November declined next to zero, affected by the negative global sentiment
over government debts. Therefore, it is worth noting that further developments in
government bond offerings might be significantly affected by the same factor in 2012.
The Development Bank of Mongolia (DBM), with the unconditional backing of the Ministry
of Finance of Mongolia and ING Groep of the Netherlands, established a US$600mn euro
medium term note program. In December, the DBM sold the initial US$20mn one year
bonds at 6% to ING Groep in a private placement. Given that Mongolia needs huge amounts
of investment to finance railway, mining, and agriculture projects, construction of roads and
accommodation, and various social spending, the DBM is expected to facilitate access to
foreign debt for several debt issues.
Meat Bonds (also “Makh Bond”) issued by Just Group kicks off the corporate bonds offer
after a long break since 2007. While tapping into the debt market by the companies may be
considered a good sign to diversify the sources of capital to implement projects at the
company level, Mongolia is currently undergoing a testing period to measure the appetite of
the corporate debt investors. Just Group was able to raise only just over MNT4bn out of the
planned MNT30bn to finance meat processing activities. The disappointing bond sales were
mainly due to risk aversion toward the debt instrument. We may expect such uncertainty in
2012, and it is unclear if there will be any bond offer by local companies, considering the
risks of investing in untested market.
CDs and term deposits at the top four commercial banks offer over 13% rates annually in
MNT and 6% rates in the US$ for individuals. These banks offer negotiable rates for

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36


31 January 2012

corporate clients at about 6% 8% in the national currency. Despite these favorable rates, for
foreign investors, we believe the deposits in MNT should be considered together with the
risks involved in the exchange rate.

Deposits rates by major banks
Bank
Golomt Bank
Trade and Development Bank
Khan Bank
Xac Bank
Source: Company Data

www.eurasiac.com

12 month rate in
MNT
13.8%
13.5%
13.4%
13.2%/14.4%

12 month rate in
US$
6.6%
6.6%
6%
6%/6.2%

Type
CDs
CDs
Term deposit
“Housing”/“Age gracefully” deposits

37


31 January 2012

Property

US$/sqm

In Mongolia Outlook 2011, we mentioned
Silk Road Ulaanbaatar Property Index, US$ per sqm
that strong economic growth, national
1050
currency appreciation and speculative inflow
1000
of foreign capital have driven residential
950
property prices up nearly 20% during 2010.
900
We also concluded that growth of property
850
prices in US$ terms was mainly attributed to
800
MNT appreciation of 12.9%. At the end of
750
2011, Silk Road Ulaanbaatar Property Index
700
(SRPUB), the benchmark that tracks the
650
property prices in Ulaanbaatar advanced
600
18.4%. It implies that the average price of
Jan 09 Jun 09 Nov 09 Apr 10 Sep 10 Feb 11
Jul 11
residential property in the secondary market
reached US$1,018 per square meter and for
Source: Silk Road Management
the first time during the past 3 years it
exceeded US$1,000 threshold. It has to be mentioned that unlike 2010, when Mongolian
currency appreciated, this year MNT lost 11.1% y t d. The plunge of tugrik had downside
impact in property prices in US$ terms, which suggests that price growth in MNT is even
more significant.
Mongolian banking system has been rapidly
expanding but the effect of mortgage loan
penetration was not significant at 4% in
2010 and 6% in 2011. Despite this,
mortgage loans still nearly doubled from
last year from MNT334bn to MNT656bn
and had major impact in residential
property market during 2011. We expect
that Ulaanbaatar residential property prices
will continue appreciation as the availability
of mortgage financing increases and the
rate of loan penetration grows.

Mortgage loans, MNTbn
700
600
500
400
300
200
100
0
2008

2009

2010

2011

The Central Bank of Mongolia

Luxury residential property segment is
driven by foreign investors in the market and the growing number of wealthy Mongolians.
With population of 2.7 million and fast growing economy, the significance of wealth creation
for Mongolians will be even more apparent in the coming years. This factor has already
resulted in increasing number of luxury residential developments as well as stimulating the
demand from local population. In addition, cost of construction has increased as a result of
appreciation of land prices in central locations. Majority of the luxury apartments were
priced at US$1500 2700 per sqm during 2011 and average house or larger apartment could
be priced at over US$500,000.

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38

Dec 11


31 January 2012

Although the pace of construction slowed during 2009 2010 and office property projects
stalled, market has picked up from 2H2010 and the supply of quality office space is expected
to increase significantly going forward. Completion of Monnis Tower and Central Tower
(51% owned by Shangri La Asia), has contributed to the increase of quality office space,
followed by launch of Express Tower and Blue Sky Tower, all concentrated in the Sukhbaatar
Square area. However the total space of modern class office space is estimated at
160,000sqm, still not adequate to alleviate demand pushing rental rates up. In the
immediate future we do not expect that Grade A offices will be impacted by the increased
supply and the rental rates will continue to increase. Situation might change from 2H2013
when the major projects will be completed and the market will see substantial increase of
new office spaces.
Mongolian commercial property market has rather young history. Robust economic growth
during the last few years and improving
living standards of the local population of Construction by property type, MNTbn
Mongolia has driven retail sector to expand
300
significantly.
According
to
National
250
Statistical Office, wholesale and retail trade
200
in Ulaanbaatar surged 57.7% from 1.75bn to
MNT2.75bn in 2011. With the launch of
150
Max Mall and Naran Mall, the supply of
100
prime retail space has increased but rental
50
rates remain to be close to office rents,
suggesting that there is significant potential
0
for growth.
2006
2007
2008
2009
2010
Residential
Trade & service
Other

2011

Industrial
Hospitals, schools and cultural

Estimated total contribution of the tourism
sector to GDP in Mongolia remains to be
Source: National Statistical Office of Mongolia
around 9%. The number of visitors in
Mongolia has been on the rise and reached
all time high of over 492,800 visitors in 2009. In 2011, total of 460,360 tourists visited
Mongolia according to General Authority for Border Protection. The demand for luxury hotel
rooms is expected to grow as the booming mining sector will stimulate business travel.
Currently operating hotels, that are considered to be 4 5 stars, do not fully comply with
international quality standards. However situation is changing quickly. In 2011 Ramada hotel
opened its doors, the first in a new wave of international brands to move into Ulaanbaatar.
Construction projects are already underway for Shangri La, Best Western, Hilton, Sheraton,
Hyatt and Radisson.
In 2012, we reiterate our view that the Mongolian property market possesses significant
growth potential. With the robust economic growth expectations, we estimate that property
prices will continue to grow at double digit rates. Residential property prices in Ulaanbaatar
should add another 15% in 2012 and reach US$1,150 per sqm. We also stand by our view
that the growth will be boosted by economic growth, wealth creation and national currency
appreciation. However we expect that from 2012 mortgage loans will start playing major
role in property market growth.
www.eurasiac.com

39


31 January 2012

Private Equity
Accelerating economic growth in Mongolia will offer a strong appeal for more sophisticated
investors to search for private equity deals in financial services (banking, insurance, leasing),
agricultural, manufacturing, media, IT, property advisory, tourism and hospitality sectors.
Moreover, we believe that there are numerous under capitalized small to medium sized
resource companies in Mongolia which are seeking for funds to develop their resources. A
growing number of privately held companies, looking to list domestically and internationally,
will create pre IPO opportunities.
The telecom market appears to be relatively saturated with more than 60% penetration rate
of cell phone users, according to South Korea’s SK Telecom. In 2011, SK Telecom exited the
market selling its entire 29.3% stake at Skytel LLC for US$25mn to existing shareholders.
Terra Energy LLC (TE), owned by Guildford Coal, may create a pre IPO opportunity as the
owners initially planned to list TE with several exploration licenses in South Gobi region of
Mongolia.
M&A
Mongolia experienced significantly larger M&A activities during 2011 in line with our
projections the previous year. We estimate 39 M&A deals were observed with the total
volume of over US$2bn in 2011, nearly twice as much as in 2010. Mining and exploration is
an exclusive sector for M&A in Mongolia, particularly in 2011, many international mining
and exploration companies were active participants in the process. According to our
estimates, since 2007, the Mongolian coal industry has experienced over 50 M&A deals with
total value of US$2.19bn. In 2011 only, 27 coal related M&A deals worth US$1.65bn were
completed. The most prominent names in terms of the M&A deal size throughout the year
include Banpu (Thailand), Mongolian Mining Corp. (Mongolia), Noble Group (Asia), Guildford
Coal (Australia).
Banpu, Thailand’s coal magnate, acquired Hunnu Coal with over 800Mt JORC
compliant coking and thermal coal resources in 11 exploration projects in Mongolia.
Banpu acquired 12.2% of Hunnu in March for AUS$45mn and the rest for
AUS$477mn (US$493mn) in September through November at AUS$1.8 per share,
paying nearly 30% takeover premium to shareholders.
Mongolian Mining Corp. acquired the Baruun Naran (QGX) coking coal mine with
253Mt NI 43 101 compliant Measured and Indicated resources for US$464.5 from
Kerry Mining (90%) and MCS Minerals (10%). The acquisition value may be adjusted
to US$950mn depending on the proven and probable reserves as well as production
from the Baruun Naran mine.
Noble Group, a large Asian commodities trader, acquired 10.1% undiluted interest
in Aspire Mining by the end of 2011. Through a joint venture (50/50) with Xanadu
Mines, Noble owns the Nuurstei coking coal project (with the right to own up to
80%) and Javkhlant project.

www.eurasiac.com

40


31 January 2012

Guildford Coal, an Australian exploration company, made exploration license
acquisitions worth a total of US$50.73mn through its joint venture, Terra Energy,
with local partners. The company managed to increase its stake in Terra from 50% to
70% this year for US$7.23mn. Guildford recently carried out talks with potential
buyers.
Draig Resources (formerly C @ Ltd.), another Australian exploration company,
acquired 100% shares of BDBL LLC, a subsidiary of Peabody Winsway Resources,
with 8 coal exploration licenses. The settlement worth of US$7.87mn was completed
in late 2011.
We believe Mongolia continues to be one of the most appealing targets for M&A deals in
2012. Coal companies, both exploration and mining, will dominate in the list of potential
strategic buyers. Mongolia holds estimated 160 billion tonnes of coal resources with
significant further exploration potential and only 17% of the area has been explored. M&A
target prospects, in our view, will include SouthGobi Resources (SGQ: TSX), Mongolia Energy
Corp. (276: HK), Aspire Mining (AKM: ASX), Guildford Coal (GUF: ASX), Sharyn Gol (SHG:
MSE), Xanadu Mines (XAM: ASX), Mogoin Gol (BDL: MSE). Naturally, the international
players will account for the majority of the strategic buyers as they contribute to the
development with much needed funds and expertise. We expect potential strategic buyers
such as ArcelorMittal, Vale, Xstrata, Glencore, Noble Group, KORES, JOGMEG, Teck
Resources to expand actively in Mongolia. Following the activities in mining, logistics will be
an attractive topic. In 2011, Tembusu Investments (TIL: AIM), a logistics company, acquired
Salins Limited, a local company with assets licensed to carry out coal transportation and
other logistics services in Mongolia.

www.eurasiac.com

41

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