Ruble Rally Triggers ‘Mother of Squeezes’ as U.S. Funds Pile In

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The ruble’s flip from worst to best currency is causing a stampede in the bond market as U.S. money managers race back in.

At least half of the funds tracking JPMorgan Chase & Co.’s benchmark emerging-market local bond indexes own a smaller percentage of the debt than is contained in the gauges, according to Citigroup Inc. Now they’re playing catch-up after the ruble’s 15 percent rally this year, the most of any currency worldwide, sent the government’s OFZ bonds soaring 23 percent.

“It’s been very painful, it’s the mother of squeezes and I don’t think we are finished yet,” Luis Costa, a strategist at Citigroup in London, said in e-mailed comments Friday. “For the first time in quarters and quarters, we’re starting to see OFZ flows from U.S. accounts. This is the buy signal.”

The money flowing in shows confidence that the cease-fire in Ukraine will prevent any further ratcheting of U.S.-led sanctions against Russia. It’s likely to send the ruble rallying as much as 17 percent to 45 per dollar in the coming weeks, according Alfa Bank, the nation’s second-largest private lender.

Not everyone’s rushing back. Peter Wilson, a senior portfolio manager at Wells Fargo Asset Management in London, says Russia is an “unstable” investment.

Being Penalized

Russia’s ruble bonds aren’t “a reasonable investment in the current situation,” Wilson said by e-mail on Friday. “While we benefited from no allocation last year as they fell, we’re being penalized by the current bounce.”

The central bank kicked off the rebound with a surprise 200 basis-point rate cut at the end of January, lowering its key rate to 15 percent. The Ukraine cease-fire deal in February stoked appetite further, while policy makers followed last month with a 100 basis-point rate reduction.

The regulator will continue cutting at its next policy meeting with a 200 basis-point decrease, according to Alfa Bank’s Moscow-based chief economist Natalia Orlova.

“Expecting this step, investors should be in a rush to take exposure to Russian assets and we expect the ruble to stay strong in the coming weeks,” she said in an e-mailed note Friday. “Negatives will be disregarded by the market for the moment as 10 percent to 12 percent yields on sovereign bonds are too attractive given the negative return offered by developed markets and much lower yields on other emerging markets.”

‘Sheer Madness’

Funds holding Russian debt have seen $200 million of inflows this year, according to AO Gazprombank, citing EPFR Global data. That compares with $1.35 billion of outflows in the same period last year.

“The underweight in OFZs at the beginning of 2015 must have been very wide,” Alexander Losev, chief executive officer of Sputnik Asset Management in Moscow, said in e-mailed comments. “The ruble was dropping like a brick for the whole of December, and even in January with oil at $45 per barrel it was sheer madness to everyone to hold OFZ bonds.”

The ruble strengthened 1.5 percent versus the dollar to 52.8060 as of 4:40 p.m. on Monday. The currency pared its weekly advance on Friday after the central bank said it will increase the cost of borrowing foreign exchange to stem gains.

Government five-year bonds maintained gains after the central bank move, reducing the yield 26 basis points to 11.28 percent, the lowest in more than four months. The yield fell 87 basis points in the week. Russia’s ruble bonds have handed investors a return of 36 percent this year.

“Uncertainty has decreased, risks have fallen,” Gazprombank analyst Alexey Demkin said by e-mail on Friday. “Ruble bonds offer one of the best real yields.”

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