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Putin Losing Yield Advantage as Recovery Slows: Russia Credit

Russia's Finance Minister Alexei Kudrin
Alexei Kudrin said on Oct. 20 the economy may expand less than the government’s 4 percent target. Photographer: Alexander Zemlianichenko Jr/Bloomberg

Russia is losing its borrowing cost advantage over most developing nations as the economy recovers slower than the government predicted and a 57 percent increase in bond sales overwhelms demand.

The average yield on Russia’s dollar bonds was 30 basis points short of the average for the 22 nations included in JPMorgan Chase & Co.’s EMBI+ Index, the smallest discount since September 2009. The gap has shrunk from 47 basis points at the start of October and 105 basis points, or 1.05 percentage points, in February.

Russian bonds due in 2020 declined 12 of the past 13 days, the longest losing streak since their sale in April, according to data compiled by Bloomberg. Finance Minister Alexei Kudrin said on Oct. 20 the economy may expand less than the government’s 4 percent target and Citigroup Inc. cut its 2010 economic forecast for the country to 4.1 percent from 5 percent on Oct. 27. Russian yields are 35 basis points higher than in Brazil, which the International Monetary Fund forecasts will expand 7.5 percent this year, JPMorgan indexes show.

“Russian debt is underperforming because economic growth there has been very disappointing this year, and it looks set to continue that way for several months to come,” said Gyula Toth, an emerging-markets strategist at UniCredit SpA in Vienna.

Russia’s Eurobonds climbed 1.1 percent in October, less than the 1.6 percent gain for Brazil, 2.9 percent for Turkey and 1.8 percent for JPMorgan’s EMBI+ Index of foreign-currency debt from the biggest emerging-market sovereign borrowers. Russia lagged behind in part because of an “oversupply” of corporate bond sales, according to Kieran Curtis, who helps manage $2 billion of emerging-market debt at Aviva Investors in London, the fund management arm of the U.K.’s second-biggest insurer.

Sberbank, MTS

Russia sold its first dollar bonds since the 1998 default in April, raising $5.5 billion. Since then, companies led by OAO Sberbank, the country’s biggest lender, and OAO Mobile TeleSystems, the biggest mobile phone company, have raised $14.4 billion of international debt, a jump from $9.1 billion in the same period last year, according to data compiled by Bloomberg. The amount of borrowing is the biggest since before Lehman Brothers Holdings Inc. collapsed two years ago, triggering the global credit crisis.

Companies are taking advantage of the cheapest borrowing costs on record as near-zero interest rates in the U.S. and Europe drive investors to seek higher-yielding assets in emerging markets.

‘Fight’ for Growth

Russia’s economy shrank by a record 7.9 percent last year as oil prices fell by more than $110 a barrel from the July 2008 peak. Deputy Economy Minister Andrei Klepach said Oct. 6 that the country will have to “fight” to achieve growth of 3.9 percent to 4.5 percent in the next three years.

“There is much less confidence in Russian growth and certainty as to how strong this growth will be this year and next,” Chris Weafer, chief strategist at UralSib Financial Corp. in Moscow, said in a telephone interview. “If you go back to April we were certainly more optimistic, the government was very confidently talking about keeping inflation below the refinancing rate and the view was that growth for this year would be at least 5 percent or even as high as 7 percent.”

Russia’s dollar bonds due in 2020 rose today, pushing the yield seven basis points lower to 4.429 percent. The yield on the government’s ruble notes due in August 2016 rose 7 basis points to 7.24 percent and dropped 20 basis points during October.

The extra yield investors demand to hold Russian debt rather than U.S. Treasuries fell 4 basis points to 210, according to JPMorgan’s EMBI+ Index. The difference compares with 129 for debt of similarly rated Mexico and 175 for Brazil, which is ranked two steps lower that Russia’s Baa1 rating by Moody’s.

Default Swaps

The cost of protecting Russian debt against non-payment for five years using credit-default swaps fell 2 basis points to 142 today, down from this year’s peak of 217, according to CMA prices. The contracts, which 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, fell 15 basis points last month.

Credit-default swaps for Russia cost 11 basis points more than contracts for Turkey, which is rated four levels lower at Ba2. Turkey’s advantage is the biggest since October 2009. Russia swaps cost as much as 40 basis points less than Turkey on April 20.

The ruble was little changed at 30.8560 per dollar by 2:21 p.m. in Moscow, trading near its weakest closing level since Oct. 20. The currency weakened 0.9 percent against the dollar last month.

Consumer Confidence

Non-deliverable forwards, or NDFs, which provide a guide to expectations of currency movements and interest rate differentials and allow companies to hedge against currency movements, show the ruble at 31.0950 per dollar in three months.

While Russian bonds are underperforming emerging-market peers, yields are near the lowest since JPMorgan began tracking the securities in May 2002, at an average 5.26 percent on Oct. 13 for government dollar bonds. Russia’s 2020 notes yielded 4.153 on Oct. 13, the lowest since they were sold in April, data compiled by Bloomberg show.

Russia’s economy will grow 4 percent this year, compared with a 10.5 percent expansion in China and 9.7 percent in India, according to the Washington-based IMF’s October World Economic Outlook. Citigroup lowered its growth forecast for Russia as lower-than-forecast consumption growth and higher inflation expectations limit the recovery.

Retail sales growth missed economists’ forecasts in September and inflation accelerated to an annual 7 percent, the highest level since February, after the worst heatwave in at least 50 years destroyed crops and pushed up food prices. Consumer confidence declined in the third quarter for the first time this year.

“The adverse weather conditions are partly to blame” for the underperformance in the bond market along with the jump in bond issuance, UniCredit’s Toth said.

-- With assistance from Maria Levitov in Moscow. Editor: Gavin Serkin, Alex Nicholson.

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