Putin CDS Rally Risked Amid Fresh Ukraine Tension: Russia Credit

Deeper declines in Russian sovereign credit risk after the biggest weekly drop in more than two months are being threatened by renewed tension with Ukraine.

The cost to insure Russian debt against non-payment for five years fell to 252 basis points on Aug. 15 from a more than three-month high of 278 basis points the previous week, CMA data compiled by Bloomberg show. The nation’s credit-default swaps traded 123 basis points higher than an index of the other so-called BRIC nations -- Brazil, China and India -- this month, the most since September 2009, before last week’s rally cut the gap to 104 basis points.

Last week’s rally in Russian default swaps, stocks and bonds was fueled by speculation a standoff over Ukraine would ease as President Vladimir Putin vowed to “do all we can” to end the conflict. Sentiment turned on Aug. 15 after the government in Kiev said it partially destroyed an armed convoy that had crossed the border from Russian territory.

“If there is a miraculous breakthrough, we would see the mother of all rallies in Russian assets,” Nicholas Spiro, managing director at Spiro Sovereign Strategy in London, said by phone on Aug. 15. If it becomes clear “this is a full-scale military invasion of eastern Ukraine, Russian assets will tank,” he said.

Credit-default swaps jumped 21 basis points on the last day of the week amid concern the assault could signal a new phase in the conflict, with Ukrainian forces directly clashing with Russian soldiers. The ruble declined with Eurobonds, snapping a weekly rally triggered by Putin’s pledge to work toward ending the bloodshed.

No Hope

“There isn’t much hope for a rally in Russian CDS,” Max Wolman, who helps oversee $13.5 billion in emerging-market debt at Aberdeen Asset Management Plc in London, said by e-mail on Aug. 15. Default swaps can go higher “given that the U.S. might introduce further sanctions,” he said.

Russia’s CDS contracts declined 14 basis points to 238 today as Ukrainian Foreign Minister Pavlo Klimkin and his Russian counterpart Sergei Lavrov held talks with Germany and France in Berlin to ease tension. The Red Cross demanded safety guarantees before it begins inspecting the first 16 trucks from a convoy Russia says is carrying humanitarian aid at the Ukrainian border.

Sanctions Effect

The contracts climbed to a two-year high of 281 basis points in April following Russia’s annexation of Ukraine’s Crimea peninsula in March and as the U.S. imposed sanctions. They fell to 165 basis points on June 9 after Ukraine and Russia met to discuss a cease-fire. They climbed again this month after the U.S. and Europe tightened sanctions against Russian companies and as Putin retaliated by banning imports from the European Union, U.S., Norway and Canada.

Russian CDS are currently “a pure function of developments in eastern Ukraine,” Michael Ganske, the head of emerging markets at Rogge Global Partners Plc in London, who helps manage $8 billion in developing-nation bonds and currencies, said by e-mail on Aug. 14. “When you strip out the geopolitical, sanctions risk premium, I would say a fair CDS price would be around 170.”

Penalties threaten to exacerbate the Russian economy, which is facing its worst slowdown since the recession in 2009. Gross domestic product will probably grow 0.5 percent this year, according to the median estimate in a Bloomberg survey of analysts.

The ruble gained less than 0.1 percent to 36.1050 per dollar at 3:47 p.m. in Moscow. Local-currency bonds due in February 2027 fell, sending the yield up eight basis points to 9.35 percent.

“The stakes are much higher now” after Ukraine’s strikes against the convoy, Ian Hague, founding partner at Firebird Management LLC, which oversees about $1.1 billion including Russian stocks, said by phone from New York on Aug. 15. “I would expect further declines in Russian assets.”

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