“First move” investors eye Russia’s local debt ahead of Euroclear

“First move” foreign investors, such as hedge funds, have started buying into the Russian local bond market, following the approval of Euroclear by Russia’s Federal Service for Financial Markets (FSFR) to offer services for a range of Russian debt securities.

Sberbank’s estimates suggest the proportion of foreign money invested in Russian federal loan obligations, or the so-called OFZs, has increased from 3% earlier this year to around 6%-7% currently.

The Euroclear news has been awaited from the start of the year and originally slated for the summer months, but subsequently pushed back. Last week, Euroclear finally announced the approval.

Although the FSFR had already revealed the newly adopted rules a few weeks ago, investors were waiting for the confirmation from “the other side” before making their moves.

Some allocators were spooked by the ongoing discussion whether or not opening up the market was a good idea, so they needed the extra confirmation from Euroclear itself to be sure the plan would go ahead.

Alexander Ovchinnikov, Vice President for Global Markets at Sberbank CIB, said when the initiative was first announced earlier this year, investors had initially responded by buying local bonds. However, the postponement damped their appetites.

He said: “We were recommending investors to swap six year government ruble Eurobonds for local paper at the start of the year already, when it was expected that Russia’s bonds would become Euroclearable by mid-year. There was significant demand then, spreads went down as low as 48 basis points.”

Local bonds have various advantages over ruble-denominated Eurobonds. The volume of the Russian Eurobond market is small, at around RUB90bn (€2.2bn), and it lacks liquidity, because investors prefer to buy and hold.

“But when it became clear that the deadlines would not be met, [demand subsided and] spreads widened to 150bp-170bp,” Ovchinnikov said.

Now that the news has been announced, the spreads have slowly started contracting again. Today spreads were at 79bp, according to Sberbank, which indicates a good level of demand.

This demand is not only coming from local allocators. Much of the movement is driven by foreign hedge funds, both in Europe and the US.

However, there is no mad rush, since Euroclear must wait for Russia’s National Settlement Depository (NSD) to be approved as Russia’s official central securities depository before trading can commence. Ovchinnikov expects this to happen by mid/end of December.

He said: “Considering the Christmas holidays, we don’t think this will make a massive difference for the local market in the short term.

“Having said that, people realise that three months to January is not a long time, so there is already demand from first money investors, such as hedge funds, which are building up preliminary positions ahead of the more conservative investors.”

In the coming months, he expects demand to rise further. In his view, there is still a chance for further tightening of spreads, as far as 30bp-40bp.

Local and foreign investors tend to have slightly different preferences.

While foreign allocators tend to invest in medium to long-dated bonds, local investors favour shorter term paper.

This, however, is not a difference in strategy, but rather due to the fact that most Russian money comes from banks. They use OFZs to maintain their liquidity, rather than with the view to gain investment returns on a longer term basis.

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