Bank of Moscow Debt Slips as Luzhkov Risk Climbs: Russia Credit

The rally in Bank of Moscow bonds may be short-lived as investors bet that clashes between Mayor Yury Luzhkov and the Kremlin may lead to his resignation and damage the creditworthiness of Russia’s fifth-biggest lender.

Bank of Moscow’s dollar-denominated notes due in 2015 fell for the first time in three days today after climbing this week to the highest level since April 20, as the yield rose 8 basis points to 5.969 percent. The yield difference between the city-controlled bank’s debt and similar-maturity sovereign bonds grew to 238 basis points from 200 when Russia sold notes in April.

Luzhkov, mayor of Moscow for 18 years and a top official in Prime Minister Vladimir Putin’s party, faced criticism from President Dmitry Medvedev in August for staying on holiday as wildfires choked the capital with smoke. Moscow authorities “went overboard” in supporting Putin’s plan to build a toll road between the capital and St. Petersburg that Medvedev suspended in August, Interfax reported Sept. 8, citing a Kremlin official it didn’t identify. The risk associated with holding the Bank of Moscow’s bonds rose 36 basis points the next day while Russia credit-default swaps fell, according to data provider CMA.

“Obviously it’s not good news, it’s not good for the Bank of Moscow,” said Tim McCarthy, who helps manage $1 billion in emerging-market assets at Valartis Group Asset Management in Geneva, including Bank of Moscow bonds. “It increases the element of political risk which is factored into these bond prices.”

City Yield Rises

The yield difference between city of Moscow’s 15 percent ruble bonds due June 2014 and the federal government’s ruble debt maturing in August 2014 rose to 20 basis points, or 0.20 percentage point, today from a low of 9 on Aug. 10, data compiled by Bloomberg show. The spread was 130 in January.

Luzhkov, 73, said on Sept. 10 that he has no plans to step down until his term ends next June, according to comments broadcast on state television. The mayor’s spokesman, Sergei Tsoi, didn’t answer calls to his mobile telephone seeking a comment.

Moscow has a 1 trillion ruble ($32.6 billion) budget and accounted for 23.8 percent of Russia’s gross domestic product in 2008, the last year for which data are available, according to the Federal State Statistics Service.

Record of Support

The city’s government has a “long track record of support” for the Bank of Moscow, including “both liquidity placements and regular capital contributions,” Alexander Danilov, senior director of Fitch Ratings in Moscow, said in a telephone interview Sept. 10. Luzhkov’s departure may undermine the relationship, leading the city to withdraw financial backing for the lender, according to Danilov.

A more than three month rally in Bank of Moscow bonds cut the yield on the notes due 2015 from as high as 7.759 percent on May 26, according to data compiled by Bloomberg. Investors demand 33 basis points, or 0.33 percentage point, more in yield to own Bank of Moscow debt rather than notes from VTB Group, the nation’s second-biggest lender, down from 67 a month ago.

The Bank of Moscow, Russia’s fifth-largest lender by assets and partly owned by Goldman Sachs Group Inc. and Credit Suisse Group AG, said the market for the bank’s credit-default swaps isn’t “sufficiently” liquid and “can’t be used as an indicator of the issuer’s objective financial condition,” according to an e-mailed statement yesterday from the lender’s press service.

‘Worst’ Crisis

Political clashes with the Kremlin signal the “worst” crisis in Luzhkov’s 18-year tenure, Stanislav Belkovsky, a founder of the Moscow-based National Strategy Institute, said by telephone yesterday. There’s now a 70 percent chance he may be forced to step down, Dmitry Orlov, a political analyst and director of the Moscow-based Agency for Political and Economic Communications, said in a telephone interview on Sept. 10.

Bank of Moscow is rated BBB-, the lowest investment-grade, with a stable outlook by Fitch Ratings, one step below Moscow-based VTB and Russian government debt. Bank of Moscow is rated Baa1, the third-lowest investment grade rating, by Moody’s Investors Service, the same level as VTB and Russia.

“The rating depends on the city’s propensity to support the bank, as well as the city’s own financial position,” Fitch’s Danilov said. “If we see that the city’s support is somehow weakening for any reason, including as a result of a review of the relationship by the new officials in charge -- in that case negative rating actions are possible.”

Debt Protection

Russia’s dollar bonds due in 2020 gained today, cutting the yield by 4 basis points to 4.612 percent, the lowest level since Sept. 6. The government’s ruble notes due November 2014 were unchanged, leaving the yield at 6.830 percent.

The extra yield investors demand to hold Russian debt rather than U.S. Treasuries was unchanged at 217, compared with 158 for debt of similarly rated Mexico and 213 for Brazil, which is rated two steps lower at Baa3 by Moody’s, according to JPMorgan’s EMBI+ indexes.

The yield spread on Russian bonds is 67 basis points below the average for emerging markets, down from a 15-month high of 105 in February, according to JPMorgan.

The cost of protecting Russian debt against non-payment for five years using credit-default swaps fell 1 basis point to 164 yesterday, according to CMA. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Bank of Moscow’s five-year credit default swaps posted their biggest daily advance since Aug. 11 on Sept. 9, climbing to 403, according to CMA prices. The difference between Bank of Moscow’s default swaps and those on Russia’s sovereign debt widened to 239 basis points the following day, from a record low of 199.6 on Sept. 8.

Yaroslav Sovgyra, a Moscow-based senior credit officer at Moody’s, said in an interview Sept. 10 that the firm’s negative outlook for Bank of Moscow “reflects the risk of a possible weakening of ties between the city government and the bank.”

Strong Position

“The risk is moderate and longer term,” she said. “The bank has a very strong position in the city of Moscow itself.”

The national NTV channel, which is owned by state-controlled OAO Gazprom, said Sept. 10 that Luzhkov took too long to return from holiday as smoke from wildfires and a record-heatwave threatened the city. State television has broadcast several more segments since NTV’s Sept. 10 report, criticizing Luzhkov.

NTV Report

“At the end of last week, a number of mass media, including all federal television channels, actively provided negative information about the activity of the mayor and the government of Moscow,” according to a statement on the city of Moscow’s website yesterday. “Television and radio broadcasts were characterized by a lack of proof. The mayor and the government of Moscow will file appropriate defamation suits on each of those accounts.”

Boris Gryzlov, speaker of the lower house of parliament and head of Putin’s United Russia party, said on Sept. 11 that the party’s council plans to discuss the NTV report, according to comments published on the United Russia website.

“The situation is close to the point of no return, given the scale of confrontation,” said Orlov from the Agency for Political and Economic Communications. “Medvedev will have to save his face and fire Luzhkov, otherwise he will suffer a reputation loss.”

Luzhkov, who was first appointed mayor by then-President Boris Yeltsin in 1992, is the longest serving regional chief since the collapse of the Soviet Union. Medvedev, president since 2008, has replaced at least three long-serving regional leaders in the past year. Moscow is one of Russia’s 83 administrative units whose leaders are nominated by the president and confirmed by local legislatures.

Governors Step Down

Medvedev accepted the early resignation of Murtaza Rakhimov, president of the oil-rich Bashkortostan region, in July. Tatarstan President Mintimer Shaimiyev agreed to step down in January after two decades in power. Last year, the Kremlin retired Eduard Rossel, governor of the Sverdlovsk region since 1991.

“There is a general growing question mark on Bank of Moscow after Luzhkov leaves,” said Sebastien de Prinsac, director of fixed-income international sales at Trust Investment Bank in Moscow. “It is still too early to assess the effect it could have on the bank. The market is driven by yield search and liquidity at the moment.”

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