The Russian debt market in the current environment of economic and financial restrictions. Russia’s bond market is under stress caused by a very high level of economic uncertainty. The activities of many Russian companies are impacted by the deep revision of forecasts with regard to potential sales markets for key Russian exports, the need to find new suppliers of equipment and components, materialization of interest risk, the threat of brain drain, risks entailing the use of licensed software, possible changes to regulation and taxation, as well as a number of other factors.
The bond market’s future is directly linked to the prospects of the Russian economy in general. Despite a high degree of uncertainty, some elements of future changes are already visible.
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The process of lowering the key rate may continue into 2022–2023, which will considerably stimulate short-term commercial borrowing. According to ACRA’s calculations, the target key rate for the medium term (the so-called neutral level) is around 7.5–8.5%. The condition of achieving this is a lack of new shocks that put the financial stability of the market’s largest players at risk. The neutral level should be reached by 2023 under a positive scenario.
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It is unlikely that the Russian Ministry of Finance will play an important role in forming the yield curve in the primary debt market (at least for most terms) because the lion’s share of the federal budget will be financed at the expense of current revenues using accumulated ruble liquidity.
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The appearance of new obstacles to external financing of companies will once again increase the role of internal borrowing in all its possible forms, including bonds.
Nevertheless, individual aspects that influence the possibility of placements are relevant to each segment of the market.
Figure 1. Volume (at outstanding face value) of individual segments of the Russian bond market (as of June 1, 2022), RUB bln
Financial institutions: liquidity is sufficient. Over the first five months of this year, the volume of bonds placed by banks was several times lower than the indicator for the same period last year. However, the need of credit institutions to finance their operations using bonds is limited. Despite the Bank of Russia reducing its key rate, the banking system possesses sufficient liquidity to cover demand for domestic market lending.
Above all, ACRA notes that a slowdown in lending amid a recovery of the volume of attracted client funds leads to surplus free liquidity. This surplus can be used primarily to increase assets, subject to renewed interest on the part of borrowers.
In addition, the anticipation of a further reduction of the key rate dampens the interest of banks in raising funds for the long term, while the risks of deterioration of the creditworthiness of Russian banks in the context of a macroeconomic downturn weaken the interest of potential investors.
It is namely this factor that will most probably lead to stagnation in the subordinated debt sector, and it cannot be ruled out that state will become the main source of fresh capital for banks.
In ACRA’s opinion, the abovementioned factors will not encourage banks to actively use bonds as a tool to replenish their resource base.
Credit institutions that have encountered problems when making Eurobond payments are discussing the idea of converting this debt into other instruments that allow issuers to avoid restrictions when making payments. However, ACRA does not expect such instruments to become widespread.
In the leasing sector, there may be a revival of placements among the SME segment. A certain deficit of equipment may result in increased demand for leasing services and growth of the cost of leased property. This, as well as possible risks of changes to conditions of lease contracts that have already been signed, may drive growth in the sector’s interest in issuing bonds. It should be noted that these issues will also not have a significant impact on the total volume of the bond market due to the small share of the leasing sector in the total volume of the debt market.
Corporate borrowers: only the largest players are issuing bonds. Over the first five months of 2022, the volume of placements by non-financial companies amounted to RUB 170 bln, which is almost two times lower than the indicator recorded in the same period last year (RUB 330 bln).
High interest rates and uncertainty surrounding the future of a number of sectors of the non-financial industry have had a negative impact on the volume of placements. In 2021, repayments of corporate bonds (excluding under options) totaled RUB 916 bln, while the volume of placements exceeded RUB 940 bln. In 2022, non-financial companies are scheduled to repay over RUB 700 bln. Nevertheless, ACRA expects that in the current situation, companies will prefer to use short-term bank financing, which in our opinion will lead to placements of non-financial sector bonds falling to RUB 360–370 bln this year.
Figure 2. The volume of issuances in the non-financial sector may shrink by more than twofold in 2022
Seasonal growth of borrowings was observed in May. ACRA expects that, given the current situation and on the back of the key rate of the Bank of Russia declining to 11% per annum, some major corporate borrowers may reenter the market in the summer. Since, in general, major borrowers are less sensitive to the increase in borrowing costs, the bond market may stagnate or contract due to a likely outflow of small and medium borrowers, as well as new promising market players who are more sensitive to borrowing costs. In addition, on the back of revision of development strategies and possible cuts or refusals to carry out number of projects and a lower need to fund capital expenses, these new players may decide not to enter the bond market.
Regions: refinancing needs will be met through budget loans. The first half of year is generally a period of calm in the bond market of regions and municipalities when issuances are quite rare. This year, regions and municipalities have not yet entered the bond market due to an absence of liquidity needs at the beginning of the year, as well as high rates.
This year, the regions (excluding municipalities) planned to place bonds worth about RUB 550 bln (RUB 290 bln, excluding Moscow) to refinance their borrowings and cover budget deficits. However, a program has been announced for refinancing commercial debt (both bonds and bank loans) using budget loans totaling RUB 420 bln for regions whose estimated budget sufficiency is less than 1.5. Therefore, the potential volume of issues may decrease to about RUB 390 bln (RUB 130 bln excluding Moscow).
Nonetheless, these figures are not indicative at the moment. Firstly, the understanding of regions’ needs for funds will be clear closer to the end of the year; moreover, regions are not allowed to place bonds in advance. Secondly, it is currently impossible to say to what extent the economic crisis will affect regional budgets this year. Given the decline in the refinancing rate, the bond market can be viewed as an option to raise funds to cover budget deficits.
Structured finance: development is possible. The structured finance (SF) market has been experiencing a slowdown since mid-2021 due to a gradual increase in the key rate over the past year. As most SF instruments are usually issued in the fourth quarter, many market players failed to accumulate sufficient loan portfolios with an average rate that would ensure the cash flow necessary to service securitization instruments while maintaining an acceptable degree of subordination. Despite the fact that the end-of-year market indicators were generally positive (the volume of finalized multi-tranche securitization transactions exceeded RUB 45 bln), many transactions were postponed or canceled altogether1. The sharp increase in the key rate this February became an additional stress factor for the securitization market and aggravated the trends of a temporary downturn in the market. The general decline in lending volumes due to higher rates limits the intensity of accumulation of portfolios available for securitization, and a parallel increase in coupon rates in the debt market has de facto blocked any possibilities of issuing structured bonds.
1Over RUB 70 bln, according to ACRA.
At the same time, ACRA expects some upward movement in the structured finance market for the following reasons:
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The Bank of Russia’s key rate of 11% per annum is the maximum limit of the range within which the securitization market can actively exist. A continuation of the downward trend in rates will contribute to the growth of the volume of securitized assets;
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In the current economic conditions, some financial institutions have lost at least part of their funding sources. Securitization, in turn, is an effective way to overcome liquidity shortages and diversify funding sources. At the same time, the greatest effect is achieved if securitization transactions are performed periodically as loan portfolios accumulate;
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SF instruments, which by definition are backed by assets, are reliable medium- and long-term investments, especially during economic turbulence, as virtually none of the securitization instruments issued in the Russian market have defaulted since the inception of this segment in 2005;
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Currently, there are active discussions of possible regulatory easing for the securitization segment that includes the most active market players, including Russian rating agencies. The introduction of such easing would create favorable conditions for the full-fledged development of the securitization market, primarily non-mortgage, with the prospect of a significant increase in the volume and number of issues of such instruments in the coming years.
ACRA expects two or three multi-tranche securitization transactions worth up to RUB 10–15 bln to take place in Q4 2022–Q1 2023 if the key rate continues to be no higher than 10–11% per annum.
