Robust appetite but little in the larder

Russian corporates not subject to western sanctions are returning tentatively to the market as 2015 enters its final quarter. A few local debt sales have taken place but until investors jump back in, Moscow remains in trouble, unable to raise money to finance big industrial projects which the large energy-based corporates desperately need.

All summer long, Russia-focused debt capital market bankers waited, fruitlessly watching the parched skies and waiting for the levees to break.

“Through June and July, there was a lot of chatter about who would be the first Russian borrower to return to the international bond markets,” said one senior debt banker. “But nothing happened.”

The drought persisted, bemusing even seasoned practitioners.

“It’s surprising that it has taken Russian firms so long to return to the market, given that corporate spreads performed very strongly through the first half of the year,” said Nicholas Hardingham, a portfolio manager at Franklin Templeton.

Then the skies opened. And when it rained, it poured. On September 1, Gazprom, the world’s biggest supplier of natural gas, announced plans to issue €1bn (US$1.13bn) of Eurobonds in October – its first international print since raising US$700m last November, and its first sale of euro-denominated notes since February 2014.

Intesa Sanpaolo, Deutsche Bank, JP Morgan and UniCredit were mandated to organise the sale on behalf of the company, which is being buffeted by low oil and commodity prices, fears of a hard landing in China, and US and European Union sanctions on key Russian corporates and interests, all of which have driven up borrowing costs.

Norilsk Nickel is also hopeful of tapping the international debt markets in soon, with the aim of raising about US$500m. The nickel and palladium miner, rated BBB– by Standard & Poor’s and Fitch, will meet investors in early October in Europe, Asia and the US, accompanied by five banks: Barclays, Citigroup, ING, Societe Generale, and UniCredit.

The transaction, if it goes ahead, would be a relatively small print for the miner, suggesting that Russian corporates, as well as their financial advisers, remain wary of the strength of their reception by the international investor community.

Hell-on-wheels

The past 18 months has been hell-on-wheels for the world’s 10th-largest economy, and the pain is not over yet. Problems mounted in December when the rouble crumpled, briefly falling to 80 against the US dollar, as sanctions bit and oil prices tumbled.

For a few days, another full-scale financial meltdown, akin to the rouble crisis of 1998, seemed on the cards. In the end, despite seeing net capital outflows surge to a record high of US$151.5bn in 2014, a country accustomed to feeling the pinch and ignoring it simply muddled through.

Yet nine months on, not much has changed. Capital continues to flee the country almost as soon as it’s formed – the economy ministry conservatively tips outflows to reach US$93bn in 2015 and US$70bn in 2016. Economic output is set to contract by 3.4% this year, according to projections from the IMF, and to shrink again next year.

In the last week of August, the rouble tumbled to 71 against the dollar for the first time since January, hit by the price of oil, one of the country’s most profitable exports, which continued to languish below US$50 a barrel. Consumer prices rose by an annualised rate of 8% in the second quarter, according to central bank data, while purchasing power, in the form of real wages, plummeted 9.2% year-on-year in July 2015.

Again the Kremlin reacted predictably, slipping last year’s patriotic playbook from the drawer, and begging major exporters to sell foreign currency and bolster the value of the national currency.

Yet in other ways, the latest crisis to play out in Moscow is different from those that came before. Last December, Russia was the focal point of its own simple story: a stagnant economy battered by military misadventures of its own making, and desperate to shore up a flagging currency.

This time round, the rouble is just one of a clutch of currencies caught in a far wider emerging market sell-off. The currencies of Colombia, Mexico, Brazil and Turkey have tumbled in recent months against the dollar, while the last time the Malaysian ringgit and Indonesian rupiah were trading at their current rates against the greenback was during the Asian financial crisis of 1998.

Russia’s bond market, meanwhile, remains a two-speed affair. Even institutions that do not appear on US and European lists of sanctioned corporates have, until recently, been noticeably absent in the international arena, despite many being indebted and hungry for working capital.

Yet as Gazprom and Norilsk Nickel are likely to find in the weeks to come, the long-term international appetite for Russian corporate debt remains reasonably robust.

A few notable energy and financial services players have fretted publicly about their struggle to secure enough fresh working capital. Yet default rates have not risen markedly, and precious few corporates have proven genuinely unable to meet their financing commitments.

Russia remains well stocked with powerful resource and commodity-based corporates that export and earn in US dollars.

Alex Nice, a Russian analyst at the Economic Intelligence Unit, said: “If sanctions are lifted, or tensions subside, these companies will look quite attractive to foreign investors.”

Ready to re-engage

“Global investors would be ready to re-engage with strong Russian names and credits even before sanctions are lifted. The appetite is there though it will be selective,” said Cecile Camilli, head of CEEMEA DCM at Societe Generale.

Much water will have to flow under the bridge before that happens. Few expect the US to revoke its sanctions on vested economic and financial interests with close ties to the Kremlin within the next two years.

Europe has surprised Putin by staying united and holding firm in the face of stiff Russian opprobrium towards the curbs.

But there is little doubt that the country’s debt markets are in a better place than they were last spring.

“Back then, we saw a steady sell-off of assets that investors weren’t comfortable with – mostly subordinated debt from second and third-tier banks, as well as domestic, rouble-funded industrials,” said Camilli.

“But over time investors, having whittled out the dead wood; begun holding on to the sturdier credits in their portfolios – mostly export-focused metals, mining and energy firms less exposed to the crumbling domestic economy.”

Bankers praised the “steadying hand” of the Russian central bank, which has done much since last December to stabilise the rouble, and instil some much needed liquidity and stability into the secondary bond market.

Stronger Russian credits have also benefited from both a widespread sell-off in emerging-market debt, and a regional decline in fresh bond issuance.

“There has been much less supply in 2015 coming through in places like Turkey and Eastern Europe,” said Camilli.

“Even strong countries in the region have their own demons. A classic example is Poland, where issues relating to Swiss franc-denominated mortgage loans is placing stress on local lenders, and delaying new transactions. This lack of new debt activity in the CEEMEA region has also compelled investors to hold on to their Russian assets.”

Other factors have also worked in the favour of Russia’s corporates. Local debt capital markets remain surprisingly robust; double-denominated issuance actually ticked up slightly in the current year to August 25, to US$9.81bn, from US$9.27bn in the same period a year ago, according to Thomson Reuters data.

This is largely due to Moscow’s decision to free up domestic funds, enabling them to buy domestic corporate bonds.

Private pension funds, which hold around US$26bn in savings, bought Rs129bn (US$2bn) worth of local corporate bonds in the second quarter of 2015, according to figures from the finance ministry, accounting for more than a third of all corporate credits issued during that period.

“Because there is no growth at all in the country, local Russian banks, which are bursting with dollar and rouble liquidity, are being forced to find new sources of lending wherever they can”

“The domestic rouble bond market has remained quite active locally,” said Camilli.

“Since April 2015, we’ve seen a marked pick-up in activity, as more liquidity flows into the market from domestic pension funds. Russian credits remain financially attractive in terms of their maturities and yields. Around 50%–60% of the liquidity surrounding a typical onshore domestic corporate bond sale now stems from private pension funds.”

Russian authorities are also proving adept at finding other ways to keep local companies well lubricated. Russian Railways is one of the largest onshore corporates to have dipped into the US$80bn National Wellbeing Fund, a rainy-day reserve fund created to offset the effect of economic curbs, to secure fresh funding.

A host of smaller, unsanctioned private banks with strong Kremlin connections, including Otkritie Bank, Promsvyazbank, Credit Bank of Moscow and B&N Bank, have also emerged as key providers of credit to cash-starved Russian corporates.

“Because there is no growth at all in the country, local Russian banks, which are bursting with dollar and rouble liquidity, are being forced to find new sources of lending wherever they can,” said Camilli.

“So when there is a new sale of rouble-denominated corporate bonds, they seize the opportunity to put their cash to work. And despite the market volatility, it has helped to keep Russia’s domestic corporate debt sector afloat.”