Russia's Finance Ministry returned to the OFZ bond market after a four-week break, proposing two auctions of federal bonds maturing in 2021 and 2024 worth RUB10bn each.

The ministry put bond sales on hold due to volatility in the market and in preparation for a stormy sanction-filled autumn; the Russian government is clearly preparing for possible harsh new sanctions from the US after the mid-term elections pass sometime in November. The CBR has also cancelled its foreign exchange purchases for the rest of the year to preserve hard currency in case it is needed. 

The domestic treasury bills, the so-called OFZ, have been battered by investors’ worries since about April. Foreign investors have sold off some RUB500bn ($7.6bn) worth of the bonds this year taking their share down to circa 27% of the total outstanding. The Russian government has come to increasingly rely on selling OFZ to non-residents to finance its expenditures. Next year Ministry of Finance says it wants to borrow some RUB1.5 trillion of which RUB1 trillion can be easily raised from domestic investors, but if the foreign investors are banned in a new sanctions regime it is unclear where the remaining RUB500bn will come from, although MinFin has said it has some RUB2 trillion in its accounts with the CBR and can cover any short fall in an emergency.

In the meantime borrowing using OFZ has become more expensive with yields rising from circa 7% at the start of the year to a peak of 9% over the summer. At the end of September the yields on OFZ stabilised and ruble strengthened to US dollar allowing the ministry to resume auctions, but it saw little demand: only two thirds of the 2024 issue were placed at 8.29%, while the 2021 auction was called off due to lack of bids in the yield range proposed.

As analysed by bne IntelliNews, the US sanctions potentially target Russia’s primary sovereign Eurobonds and its ruble denominated treasury domestic bonds. However, with only $7bn of Eurobonds pencilled into the 2019 budget, a ban on US investors buying or owning newly issued Eurobonds – the most likely scenario, if sovereign debt is targeted at all in a new sanctions regime – will cause little inconvenience for the Ministry of Finance. If the sanctions target the OFZ – the “nuclear” option and also considered to be the least likely – that would not only hurt the Ministry of Finance’s borrowing plans, but could bounce back and hurt US institutional investors as well as these bonds are widely held.

Analysts surveyed by Vedomosti daily on the latest OFZ auction believe that fundamental sanction risks are still there despite the relative calm on the market, which kept investors away from the OFZs, while the return of capital to the markets is yet to be seen. Bond investors are now sitting on the side-lines waiting to see what will happen next. At the same time the partial success in placing longer-tem OFZ issue shows that some investors count on an improvement of the situation.