Graham Stack in Moscow -

In the demonetized 1990s in Russia, bills of exchange, or veksel, played the role of a surrogate currency. Ten years on, amid another financial crisis and liquidity crunch, veksel could be in for a revival.

Veles Capital CEO and co-owner Aleksei Gnedovsky vividly recalls the August 1998 financial meltdown. "It was apocalyptic. It was really frightening back then: Moscow was a mean city, and there were people being shot left, right and centre. And when everything collapsed, most of our clients came and said: 'Give us our money back'," he relates. "We paid what we could, and were left with nothing. We could simply have shut up shop. But instead we kept going, cut salaries and workforce, took on consulting work. And within 6 months to 1 year, things started to pick up again."

This time round, in 2008, the crisis in Russia has been less "Tarantino-esque." But for second-tier investment banks doing a lot of proprietary trading like Veles, the stock market collapse of September-October 2008 has been devastating. "But we're going to keep on working this time as well," assures Gnedovsky

Of course, as well as a sickening crunch, the financial crisis, like its predecessor in 1998, has created opportunities for the alert and brave. And a survivor like Gnedovsky - whose office bristles with samurai swords and hunting weapons - prefers to talk of these. "In 1998, after the collapse, we switched our focus to supporting M&A deals. And we're doing the same now."

Like most second-tier investment banks, Veles Capital focuses on mid-cap companies for business. The current crisis has sparked a wave of M&A in the mid-cap segment that is deprived of access to state funds flowing to larger structures. Veles Capital has responded swiftly by launching a new department supporting M&A deals in the mid-cap development and land development segment - one of the sectors most shaken up by the crisis, and with huge potential for consolidation. "At the present moment, we have a solid portfolio of closed deals and we're going to continue expanding in this segment," says Gnedovsky.

Excel at veksel

Veles Capital's other iron in the fire is its longstanding leading position on Russia's bills of exchange, or veksel, market.

In the crisis-stricken nasty 1990s, explains Gnedovsky, veksel were a crucial source of liquidity, a sort of surrogate currency in an economy plagued by non-payments. "In the 1990s, when there was a lack of liquidity, veksel were in wide use not as a financial instrument, but as means of settlement," says Gnedovsky. "Even large companies often used them to settle up. These large companies like Lukoil and Gazprom then exited the market when liquidity stopped being an issue. But now we could be seeing a return to the situation in the 1990s, when veksel were the basic source of liquidity on the open market."

Gnedovsky argues that veksel are more crisis-resistant than bonds. "This is entirely logical, since veksel are shorter and more understandable, both of which are attractive to investors in current conditions. Moreover, in the case of an issuer's default, bonds become illiquid, whereas veksel continue to be a means of settling payments, although at a considerable discount."

Veles Capital is well positioned to benefit from a reemergence of veksel. Its leading position on the veksel market "just developed historically," says Gnedovsky. Being a paper form, veksel operators must have complex logistics operations to ferry the papers to and fro across all Russia, verify them with issuers, and store them. Because it is a market specific to Russia, it is not a core competence of the global banks operating in Russia or their Russian competitors. The market is instead dominated by second-tier local, owner-managed operations such as Veles Capital and Region.

According to Cbonds.ru, the volume of veksel issued in 2007 grew 18% on the year to reach RUB30.5bn (€883m). This means the veksel market comprises 30-40% of Russia's debt market. Veles Capital's annual turnover on the veksel market grew from €14bn in 2005 to €35bn in 2007, making them the market leader by turnover.

Last year's veksel revival was caused by the first phase of the credit crunch dampening the bond market and a broad swathe of companies turning to veksel for ruble financing. Construction and aviation companies with large cashflow needs were among the largest issuers. The sudden collapse in global markets after Lehman Brothers went bust in September also hit the veksel market hard, but Gnedovsky says the veksel market has gained relative to the bond market.

The attraction of veksel, explains Gnedovsky, lies in their flexibility. Veksel maturity starts at one to three months, with the maximum of one year, compared with a minimum three to four years maturity for bonds. Veksel are also a less volatile and more liquid instrument, and, in connection with their paper form, there is very little regulation of the market. "Veksel survive and thrive in the most difficult circumstances," says Gnedovsky.

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