Standard & Poor's improved the outlook on Russia's sovereign ratings from Stable to Positive, while affirming the 'BB+/B' foreign currency rating and 'BBB-/A-3' local currency rating, the agency said on March 17. The national scale rating was affirmed at 'ruAAA'.

This is the first improvement in years by one of the big three rating agencies of Russia's outlook to Positive. Previously S&P, Fitch and Moody's all improved the outlook to Stable. Meanwhile, the foreign currency rating by S&P remained in the non-investment grade "junk" category, while the national currency rating is in the lowest investment grade category.

The agency notes that the new outlook indicates that the rating could be upgraded should the Russian economy "continue to adapt to the relatively low oil price environment", while also maintaining the strong net external asset position and comparatively low net general government debt burden - the factors that are seen as the main credit strengths by all rating agencies.

S&P expects growth in Russia to pick up, averaging about 1.7% in 2017-2020, while seeing lower risks of large-scale capital outflow and moderating external pressures which "appear to have abated significantly over the last 12-18 months".

However, "relatively low oil prices, structural impediments, and sanctions will continue to impinge upon the rebound in GDP", the agency warns, while still seeing the banking sector as fragile. S&P believes the Russian economy lacks diversity, has a weak growth record, and is constrained by wider institutional and regulatory weaknesses.

The main structural obstacles to growth it highlighted are the weak business environment, geopolitical tensions, and sanctions. The state's pervasive role in the economy and the challenging business and investment climate are keeping Russia from diversifying away from commodity exports, the agency notes.

S&P reminds that Russia's growth performance has been among the weakest of the G20 economies, with only Argentina and Brazil lagging behind.

Nevertheless, only 0.2% contraction was seen in 2016 rather than the 1% decline expected by the agency. S&P forecasts that Russia will return to positive economic growth in 2017 of 1.5% after a two-year recession on the back of increasing oil and gas prices and improving investor sentiment.

The agency believes that to date, the global oil price increase from the November/December 2016 Opec output cut deal "has more than compensated for the losses from the reduced production volume" and provided Russia with a net gain.

However, the sanctions imposed in 2014 are expected to remain in place, while the EU's sanctions will likely be extended, "especially in light of renewed hostilities in Eastern Ukraine as well as allegations that Russian hackers have penetrated Western political organizations". Notably, this makes the first mention of cyber and hybrid warfare in a credit report on Russia.

"Nevertheless, sanctions have not thwarted the Russian federal government's ability to raise moderate amounts of external debt," S&P notes, reminding that the government managed to tap the international debt market in 2016 with two Eurobonds totalling $3bn, with more Eurobond issues expected over the coming years.

Despite the drawdowns on sovereign reserve funds, the government is seen as keeping low general government debt  at below 14% of GDP until 2020, representing only a gradual weakening from its net asset position in 2014.

"We could raise the ratings if Russia's economic growth prospects improved compared with those of other sovereigns at similar levels of development," S&P said, adding that this could be helped by a "meaningful loosening of sanctions" and a sharp improvement in prospects for the oil sector.

Sustained strengthening of the banking sector that would enhance the effectiveness of monetary policy through a stronger monetary transmission mechanism could also result in a rating upgrade.

Alternatively, the outlook could be set back to Stable "should geopolitical events result in foreign governments significantly tightening their sanctions on Russia, or if Russia's economic, fiscal, or external performance were weaker than our projections", S&P concluded.