Ukraine Currency Forwards Signal Weakening as 2014 Yields Climb

Traders’ bets on the hryvnia weakening approached a one-year high in the forwards market on concern that Ukraine’s dwindling foreign reserves will reduce policy makers’ ability to prop up the currency.

Three-month non-deliverable forwards, showing where traders expect the currency to trade in mid-March, had the hryvnia at 8.8650 per dollar, within 0.2 percent of a 12-month low set on Dec. 5, according to data compiled by Bloomberg. The forwards traded 7.4 percent weaker than the spot rate, which depreciated 1 percent to 8.2550 per dollar by 1:55 p.m. in Kiev. The yield on the sovereign’s June 2014 dollar notes surged to a record.

Ukraine’s foreign reserves plunged 9 percent last month to a seven-year low as President Viktor Yanukovych’s decision to suspend talks on a European Union trade pact in favor of closer ties with Russia sparked protests. The KievPrime overnight index, which tracks borrowing costs among lenders, declined to 17 percent today from a one-year high of 20 percent yesterday and an average of 4.2 percent in November, signaling Ukraine’s efforts to prevent a devaluation are creating cash shortages that could deepen the third recession since 2008.

“The disruption of normal business operations poses risks for inflation, and potential capital flight could raise pressure of the hryvnia,” Vladimir Pantyushin and Andreas Kolbe, analysts at Barclays Plc, wrote in a report today. “Ukraine’s credit profile continues to deteriorate.”

Hryvnia Liquidity

Interbank liquidity “started to evaporate” mainly because of the “massive interventions” that “helped calm devaluation pressure” on the hryvnia, Vladislav Sochinsky, treasurer at Citigroup Inc.’s unit in Kiev, said by e-mail yesterday. “The central bank has reiterated that their key task is to keep interest rates at a low level to allow lending to economy.”

The yield on Ukraine’s June 2014 dollar note rose 36 basis points, or 0.36 percentage point, to a record 21.22 percent today. The rate on bonds due in April 2023 dropped three basis points to 10.77 percent, after surging 42 basis points yesterday to the highest since the securities were sold eight months ago, according to data compiled by Bloomberg.

The bond selloff came after Ukraine’s foreign-currency reserves dwindled to $18.79 billion on Nov. 30, the lowest since 2006 and was exacerbated when Russia cast doubt on imminent assistance for its neighbor yesterday.

Five-year credit-default swaps, derivatives used to insure bonds against non-payment, rose 26 basis points today to 11.52 percentage points, the highest since January 2010, data compiled by Bloomberg show. Barclays kept an underweight recommendation on Ukrainian debt in the report from Pantyushin and Kolbe today.

Ashton Visit

European Commission Vice-President Catherine Ashton arrives in Kiev today for a two-day visit after the Yanukovych administration pulled out of an EU trade deal on Nov. 21. With protests in Kiev holding out for a 20th day amid snow showers and freezing temperatures, police pushed demonstrators away from their make-shift blockades and tent encampments in the capital city and stormed the offices of jailed former Prime Minister Yulia Tymoshenko’s party yesterday and this morning.

Bank of America Merrill Lynch raised the sovereign’s bonds to market-weight from underweight, citing “consensus” expectations that country will avoid default next year.

“Much bad news is priced in,” analysts Arko Sen in London and Vladimir Osakovskiy in Moscow wrote in the research note today. “Foreign-exchange reserves remain considerably above the critical threshold, which we estimate at $15 billion.”

Currency Protection

Ukraine, a former Soviet republic that depends on Russia for 60 percent of its gas consumption, needs at least $10 billion in loans to improve its balance of payments and avoid a default, the Interfax news service cited First Deputy Premier Serhiy Arbuzov as saying Dec. 7. The government has rejected conditions for a bailout from the International Monetary Fund, which included higher energy prices.

Ukraine faces almost $17 billion of debt payments in the next two years, according to data compiled by Bloomberg. The government sold 2.2 billion hryvnia of local-currency notes due in five and seven years yesterday.

“The government is likely to protect the currency for as long as they can,” Alex Brideau, a senior analyst at Eurasia Group, a political research and consulting firm, said in a phone interview from Washington yesterday. “The question is at what point that becomes untenable.”

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