Page 87 - IFR Opportunities in Russian capital markets

CHAPTER04
ifrintelligence reports/Opportunities in: Russian Capital Markets
approved reforms to the legal code covering financial transactions, the law says that it will only recognise deals that involve a Russian bank. A Russian interest rate swap deal that involves only foreign banks is treated by Russian law as a ‘bet’ – even if one of the banks is Russian, but registered offshore. These caveats have already driven some of these deals offshore, where they are covered by UK law.
“It is protectionism, driven by a desire to control the market,” says Laurent. “If the laws are too prescriptive then the market will go offshore and some of it already is.”
Lessons from Russia’s first ever corporate bond default
Judging the risk and hence the price of Russia's ruble bonds is difficult, as since the 1998 crisis there has been one default on a bond.
Sodbiznesbank failed to pay the coupons on its corporate bond in May 2004. However, this was seen as an exception, as the bank was the first ever to have its licences revoked by the CBR on money laundering grounds, which sparked the mini-bank crisis that summer.
Bond traders actually welcomed the default, as they were worried by the growing enthusiasm for Russian corporate debt. The failure of Sodbiznesbank to honour its obligations was seen as a timely reminder of the risks associated with bond issues.
Prior to Sodbiznesbank's default there had been one technical default, when the corporate issuer simply forgot to pay the coupons. A second technical default was caused after Gazprom took back control of the Sibur petrochemical company, which went into a technical bankruptcy as part of a corporate control battle back in 2000. Sibur had issued two bonds, but Gazprom stepped in and paid them both off, avoiding a default.
However, the fears of default should be taken seriously, as Russian companies have been borrowing heavily to finance their expansion in a rising market.
Most bonds have a maximum maturity of three years, whereas they are being used to finance investment projects with a typical payback of five to eight years. The issuers are assuming that they can roll over the bonds at least once and so far as yields have fallen continuously this has not been a problem.
But the mismatch between the maturities of corporate bonds and the projects they are being used to finance is one of the potential threats to Russia's growth. If there is a nasty external shock that increases yields again, then companies will find that previously profitable investment projects are made unprofitable by the increased cost of borrowing and could lead to a wave of defaults.
Sovereign bonds
Flush with money, the state has been paying off its debt early and is not expected to issue new Eurobonds for the next few years. In the 1990s the state borrowed most of the money it needed to fund its deficits from international markets, but the share of foreign borrowing in the state debt portfolio has been falling steadily and is expected to pass parity in 2007, as shown in Figure 4.8.
Figure 4.8: Distribution of state debt, 2004–08E (%)
%
100 90 80 70 60 50 40 30 20 10 0
State domestic debt State external debt
Source: Finance Ministry, Troika Dialog estimates
01/01/04
01/01/05
01/01/06
01/01/07E
01/01/08E
80