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Ukraine Investors Bet on IMF Deal as Yanukovych Faces Vote

Ukranian President Viktor Yanukovych
Ukranian President Viktor Yanukovych. Photographer: Vincent Mundy/Bloomberg

Investors are betting that Ukrainian President Viktor Yanukovych will unfreeze an International Monetary Fund loan and devalue the hryvnia after parliamentary elections on Oct. 28.

The country’s foreign-currency bonds have returned investors 24 percent this year, the most after Venezuelan debt, according to JPMorgan Chase & Co.’s EMBI Global Index, which gauges the yield difference relative to U.S. Treasuries.

To meet longer-term financing needs after the current-account deficit almost doubled to $8.6 billion through August, Ukraine wants to extend a frozen $15.4 billion IMF loan, which expires this year, Deputy Prime Minister Valeriy Khoroshkovskiy said Oct. 18. A July sale of $2 billion in dollar debt eased refinancing concern, helping the country outperform its peers, said Ronald Schneider of Raiffeisen Kapitalanlage GmbH.

“The hope is that after the election we will see more cooperation with the IMF,” Vienna-based Schneider, who helps manage 700 million euros ($899 million) in emerging-market debt, said in an Oct. 22 phone interview. “It’s also partially priced in that there will be more positive steps in the direction of devaluation. This is reflected in the bond market.”

IMF Halt

The IMF program was halted last March after the government, facing this week’s parliamentary election, refused to raise household utility tariffs sought by the Washington-based lender. Investors are looking beyond the election and seek progress on the IMF talks and a possible hryvnia devaluation to help rebalance the economy, Schneider said.

The hryvnia, which has lost 1.5 percent against the dollar this year, was 0.1 percent higher at 8.1738 at 7 p.m. in Kiev, data compiled by Bloomberg show. The cost of insuring Ukraine’s government debt for five years using credit default swaps dropped to 15 basis points to 625. It was 849 basis points at the end of last year, according to data compiled by Bloomberg, reflecting an improved risk perception.

Emerging-market debt rallied after the European Central Bank announced an unlimited bond-buying program, the Federal Reserve began a third round of quantitative easing and the Bank of Japan extended its asset purchases.

Yield Drop

The yield on Ukraine’s benchmark government bonds due 2013 has declined almost 4 percentage points this year to 6.58 percent. The yield dropped to 6.19 percent on Sept. 20, the lowest in a year. The yield on the dollar bonds due 2017 has dropped 2.87 percentage points since it was sold in July, to 7.03 percent.

The downward move in yields may not be sustained because of negative economic trends, Andreas Kolbe, a London-based strategist at Barclays Plc, said in an e-mail today, adding that investors should hold less Ukrainian debt than recommended by benchmark indexes.

“Ukraine credit has enjoyed a significant rally recently, likely driven by the ample global liquidity conditions and the resulting hunt for yield,” he wrote. “We think that economic realities will eventually come back to play a more prominent role. Hence, we reiterate our underweight stance on Ukraine credit.”

The Ukrainian Equities Index is down 48 percent this year, more than any benchmark in the world, data compiled by Bloomberg show. Stocks slid as the economy slumped after growing 5.2 percent last year. Ukraine may have entered a recession last quarter as the global slowdown squeezed the price of steel, the nation’s main export earner, according to Erste Bank Group AG and HSBC Holdings Plc.

Poll Lead

Yanukovych’s Party of Regions is leading in opinion polls. It was backed by 23.3 percent of voters, compared with 15.1 percent for jailed opposition leader Yulia Tymoshenko’s Batkivshchyna, a Sept. 18-Oct. 4 survey by the Kiev-based Democratic Initiative Fund showed. World boxing champion Vitali Klitschko’s UDAR party had 16 percent, and the communists, currently in coalition with Yanukovych’s party, had 10.1 percent, according to the poll.

To put the economy on track for a recovery by restoring competitiveness and boosting exports, a move which would narrow the current-account deficit, derivatives traders have been betting that the government will be forced to devalue the currency. The hryvnia will drop to 9.33 per dollar in six months and 10.20 in a year’s time, based on non-deliverable forwards.

Quicker Devaluation

“The sooner the devaluation of the hryvnia occurs, the better for the external balance, the economy and the markets,” Alexander Morozov, HSBC’s Moscow-based chief economist for Russia, Ukraine and Kazakhstan, wrote in an Oct. 22 research note.

The hryvnia needs to weaken to 11 per dollar by end-2013 to trim the current-account deficit to 5 percent of gross domestic product, Morozov said. The shortfall will widen to 9 percent of gross domestic product this year, he predicted.

The IMF has also pushed for a more flexible hryvnia. Policy makers and the government are seeking to dissuade the public from buying foreign currency in anticipation of a devaluation, central bank Governor Serhiy Arbuzov said Oct. 15.

“It could be a positive thing if they devalued the currency because the fundamentals would improve and that could support the spreads a little bit more,” Oliver Kastner, who helps manage about $3 billion in emerging-market bonds at Deka Investment GmbH in Frankfurt said in an Oct. 22 phone interview. “Maybe after the elections a weaker currency will come. It will be necessary.”

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