Yuan Deepening Ruble Rout Is No Bad Thing for Newest Russia Bond

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As China’s devaluation fueled the ruble’s plunge this week, one corner of Russia’s bond market has been rallying: securities that protect investors against inflation.

The price of so-called linkers, which pay an interest rate based on inflation, climbed to the highest level since the government’s debut sale a month ago.

The jump reflects the heightened outlook for price growth as the biggest slump among major currencies this quarter increases the cost of imported goods. While the Bank of Russia says inflation will drop by a half to 7 percent in a year and 4 percent in 2017, the extra yield on linkers, or breakeven rate, signals an average 8 percent over the next eight years.

“Of course I don’t believe” the 4 percent projection because “in the current circumstances, you’d need such a tight monetary policy to achieve it that the central bank wouldn’t dare,” Alexey Tretyakov, a money manager at Aricapital Asset Management in Moscow, said by e-mail after buying linkers on Wednesday.

The threat of inflation may prevent the central bank adding to its 6 percentage points of interest-rate cuts this year aimed at pulling Russia out of its worst recession since the global financial crisis in 2009. The economy, battered by tumbling prices for its crude exports and sanctions over its role in Ukraine, also faces the prospect of reduced trade as China’s economy slows.

Further Gains

The steepest depreciation of the yuan since 1994 pushed oil near its lowest in six years this week.

The ruble has depreciated by 23 percent against the dollar in the past three months. The central bank responded to the currency’s weakness by paring interest-rate cuts to the smallest this year at 50 basis points on July 31, and deleting its sentence on intending to cut further from an accompanying policy statement.

The price of the August 2023 CPI linker rose to 95.6 percent of face value by 1:03 p.m. Moscow time on Friday. Its yield has declined 69 basis points since the sale on July 17, contrasting with a 62 basis-point increase for fixed-coupon bonds with a similar maturity.

The linker is likely to gain further, with the real yield declining to 3 percent from 3.17 percent currently and 3.84 percent at the time of sale, Dmitriy Gritskevich, a fixed-income analyst at Promsvyazbank PJSC in Moscow, said by e-mail.

Aricapital’s Tretyakov sees it dropping to between 2 and 2.5 percent.

‘Scarcity Support’

Part of the attraction of linkers is their “scarcity support” after the Finance Ministry sold only 75 billion rubles ($1.16 billion), compared with orders for 198 billion rubles, VTB Capital analysts Maxim Korovin and Tatiana Zueva said in a report dated Aug. 11.

Inflation averaged 9.3 percent in the decade to 2014.

“With the ruble volatility this high, there doesn’t seem to be much confidence in the central bank’s medium-term inflation target,” said Gritskevich at Promsvyazbank.

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