Russian markets on tenterhooks over possible S&P junk rating

By bne IntelliNews October 24, 2014

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Russia's traders are on tenterhooks ahead of a review of the country's sovereign credit rating by agency S&P scheduled for October 24, with speculation that S&P could lower the rating to junk status.  

“Following the oil price drop, which has put the vulnerability of Russia’s public finances to oil price shocks under a spotlight, we think a two-notch sovereign rating downgrade would not be a complete surprise,” Tatiana Orlova, an economist at Royal Bank of Scotland in London, wrote in a report, according to Bloomberg. 

S&P has been the most bearish of leading credit agencies on Russia from the start of the crisis over Ukraine, downgrading Russia's status to the lowest rung before junk grade as early as March, after Russia's annexation of Crimea. Downgrade to junk status would force global investment funds en masse to drop Russian paper, putting further pressure on the ruble, stock market and corporates, some analysts believe. 

Other analysts downplay the impact of a downgrade: "Given Russian entities’ lack of access to capital markets, we do not see any direct implication on the FX market regardless of the decision," write VTB Capital analysts.

Analysts, however, see little reason for Russia to lose investment status given its fundamentals. "Moving Russia from investment grade to junk is a huge move when the public sector debt to GDP ratio is around 13% and they have $190bn in the fiscal reserve (in effect) with $450bn still in CBR FX reserves," writes Standard Bank analyst Tim Ash. Other analysts point out that the economy is also continuing to grow, albeit slowly.

"The only reason to go to junk is if you think the 'willingness to pay' has radically changed," Ash added, arguing that there is nothing to show that this is the case for Russia. "If they [S&P] do move (…) accusations will fly that they are agents of the West," he said. 

Russia's credit default swaps showed no indication of deterioration in Russia's creditworthiness: the spread of Russia's CDS on October 23 was 254-257 points, lower than in 2011, when CDS spread was at 308 points, or in crisis year 2008 when it reached 765 points. 

But the reports that S&P might indeed downgrade Russia to junk spooked the market on October 23, causing the ruble to continue downwards despite the price of oil bouncing up 2%. The ruble closed at RUB41.75 to the dollar, 41 kopeks over closing on October 22, a new historical low, with the euro gaining 45 kopeks to reach RUB52.77.

Central Bank hard currency reserves fell below the six-month import cover mark of around $226bn, according to business daily Vedomosti, as Russia's Central Bank spent another $2.8bn of reserves defending the ruble, or $350m for ever 5 kopeks widening of the trading corridor. 

Another factor spooking the market, according to analysts, was the news on October 22 that Russia's largest oil company Rosneft is requesting over RUB 2 trillion in funding from Russia's National Wealth Fund, which would drain the sovereign wealth fund, one of the country's 'air bags' protecting it against a sudden drop in the price of oil.

Russia's authorities now seem set on devaluation and transition to a floating ruble exchange rate, judging by statements made by first deputy head of the Russian central bank Sergei Shvetsov on October 22, that plans for transition to a ruble float would proceed as planned for the start of 2015.  

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