Troika Dialog -

At the end of May, beginning of June, we saw the first two large Russian banking Eurobond placements: $2.0bn of paper issued by VTB and $1.75bn in bonds from Rosselkhozbank. It was hardly surprising that the window reopened first for the highest-quality quasi-sovereign banks, as was the case with corporate issuers. While it is too early to claim that the external markets are equally open to private banks (which, in the meantime, continue to raise wholesale funds only via syndicated/bilateral loans), as no good-sized placements have been finalized since the beginning of the year (and the market is still guessing what the placement premiums for private banks will be), we can say that both of the placements by the aforementioned financial institutions were fairly successful. Both issues were oversubscribed and placed at reasonable premiums (40-70 bps) over the relevant yields on the secondary market, which was in line with the premiums offered by their non-financial-sector predecessors, namely Gazprom, Evraz Group and VimpelCom. This may indicate that the additional premium for the banking risk is minor, at least for first-tier banks. In any case, the two placements demonstrated an improvement in the debt markets for Russian financial institutions.

What do the ratings say?

In contrast to the problems experienced by global financial intermediaries last year (these were followed by credit rating downgrades), Russian banks - which were not directly exposed to the mortgage and related markets - have demonstrated strong resilience to changes in the global capital market environment. Banks' financial statements indicate that even institutions that were historically heavily exposed to capital-market financing (such as Russian Standard Bank) have demonstrated financial flexibility and, despite a slowdown in asset growth rates for some of them, have retained high margins and suffered no evident deterioration in asset quality. Importantly, existing shareholders of a number of Russian banks have increased their support, which came in the form of equity injections and other funding sources. Some banks have managed to attract powerful new shareholders (such as NOMOS Bank and PPF Group), while others have entered into partnerships with larger financial institutions; the overall consolidation process in the sector appears to have received a new boost. All of these developments were reflected in the generally positive rating changes for Russian banks since the beginning of the crisis. We do not exclude the possibility of continuing rating upgrades for a number of Russian banks, which will be concentrated among institutions with historically conservative debt policies. Moreover, the latest concerns surrounding the continuation of government policy were removed in May. This, as well as record-high commodity prices coupled with a moderate Sovereign debt load, could lead to a sovereign rating upgrade for Russia.

Local money market likely to remain stable

Taking into account the high commodity prices and capital inflow (the Central Bank estimates that inflow totalled $20bn in April, and expects it to be $15bn in May versus $23bn in outflow in the first quarter), which we think will continue, we expect local money market interest rates to be in the 3.5-4.5% range this summer. In late April, when the Russian money-market liquidity squeeze - which had been expected by some players - did not materialize, we saw a stabilization of the money market environment. This was, to some extent, due to the additional measures by authorities since the start of the year, in particular the expansion of refinancing mechanisms (such as expanding the Lombard list and developing a refinancing mechanism secured by non-tradable assets), as well as providing access to additional sources of liquidity, including funds from state corporations or federal budget deposit auctions. We welcome the government's willingness and explicitly demonstrated ability to support financial system liquidity in the current environment, especially in light of the conflict between supporting liquidity and the problem of increased inflation. In April, this was rectified, clearly in favor of supporting liquidity.

Risks remain

Meanwhile, some risks remain. The key risk for Russian debt securities remains deterioration in international markets. However, as we have discussed, Russian companies and banks appear to be very well positioned currently. On the local side, anti-inflationary measures, including a further increase in the Central Bank's refinancing rate (we expect a 25- to 50-bp rise this summer), as well as the possibility of a further increase in reserve requirements, may put some pressure on financial-system liquidity and increase the cost of short-term funding sources. Meanwhile, as was demonstrated in April, a strong money market remains a priority for the Central Bank, and thus we do not expect these measures (if they materialize) to jeopardize financial system stability. Technically, the postponed supply of banking bonds remains high and when the debt market opens up for a broader range of financial sector borrowers, we expect these issues to appear, possibly putting pressure on outstanding issues' prices. Borrowers will likely struggle most on the Eurobond market, which could offer them the longest maturity debt, and this is scarce in the current environment. The probability of defaults among Russian borrowers has recently increased due to shrinking refinancing opportunities and the higher cost funds, in addition to the low financial discipline of some borrowers.

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