Another Page in Russia Sanctions Survival Guide: Synthetic Bonds

  • Ruble swap rates drop to lowest level since October 2014
  • Liquidity surplus, prospect of lower rates cut cost of swaps

Even as the Eurobond market reopened to some Russian borrowers this week, others are cultivating survival strategies that mean they can raise money in dollars more cheaply at home as a third year of sanctions bars the nation’s biggest companies from foreign capital.

Using derivatives to turn ruble bonds into dollar funds results in a yield 1.5 percentage point less than what an issuer would expect to pay for a Eurobond, according to prevailing basis-swap rates. That was enough to persuade Andrey Ilyin, the chief financial officer of EuroChem Group AG, to put off a Eurobond sale this month in favor of a 15 billion ruble bond ($228 million).

“Russian entities will continue to use swaps as a funding vehicle as long as economic terms are better than tapping the Eurobond markets,” said Apostolos Bantis, a Dubai-based credit analyst at Commerzbank AG. “The sanctions have created idiosyncratic risks” that the central bank has addressed by bolstering local lenders with a surfeit of dollars, he said.

Russian banks are sitting on the most cash in five years, allowing them to lend to each other at a lower rate than they borrow from the central bank, after the finance ministry drew on sovereign wealth funds to cover a fiscal gap. The overnight money-market rate known as Ruonia trades at 10.9 percent compared with the central bank key rate of 11 percent. That’s helped drive down currency swap rates to 8.03 percent from as high as 9.895 percent on Jan. 21.

Excess Liquidity

“The current situation with excess ruble and dollar liquidity in the banking sector is the main reason swaps are so popular,” said Igor Kozak, the head of fixed-income asset management at TKB Investment Partners in St. Petersburg. “Over the past few months Ruonia has been trading below the key rate more often, the result of excess liquidity."

Also helping to narrow the gap between rubles and dollars in the swaps market is an expectation that slowing inflation will prompt Bank of Russia policymakers to revive an easing cycle to spur growth in the recession-ridden economy. The median forecast in a survey of economists by Bloomberg is for the central bank benchmark to end the year 150 basis points lower at 9.5 percent. A rallying ruble is a further catalyst: the currency has gained 17 percent in the past three months, the most in emerging markets.

Evraz Unconvinced

Not all companies are proponents of currency swaps. Evraz Plc, Russia’s second-largest steelmaker, previously swapped all its ruble debt into dollars but Chief Financial Officer Pavel Tatyanin said the market has now narrowed and ruble rates are set to decline. Evraz plans to reduce the share of dollars in its funding mix from 91 percent as of the end of 2015 because rubles account for more revenue, he said.

Good-quality companies “have all the chances to successfully sell Eurobonds without creating complicated swap mechanisms,” Igor Golutvin, VTB Capital’s co-head of complex transactions in Moscow, said in an interview.

The average yield paid by Russian companies to borrow in euros and dollars fell to a 20-month low of 6 percent this week, according to Bank of America Merrill Lynch index data. London-listed container shipper Global Ports Investments Plc paid a 6.872 percent coupon on its debut Eurobond Monday, while Renaissance Financial raised $200 million Monday at a rate of 9.5 percent. The sales, which together raised $550 million, mark the busiest week for Russian Eurobonds in 2016 and brings this year’s tally to $1.4 billion, compared with $77 million over the same period in 2015.

For EuroChem’s Ilyin, derivatives still offer a better deal. Swapping the 15 billion rubles of bonds it sold this month into dollars could cut the 10.6 percent coupon the company paid to a rate of about 2.14 percent in the U.S. currency, according to Bloomberg calculations. That compares with a yield of 3.96 percent for its Dec. 2017 dollar bond.

Improving Eurobond market conditions are what “is seen with the naked eye,” he said. The reality is that “synthetic dollars are still better.”

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