Russia Back From Junk Could Bring $2 Billion Eurobond Inflow

(Bloomberg) -- Russian Eurobonds may see more than $2 billion of inflows if the nation wins back an investment-grade credit score this month, according to Societe Generale SA.

S&P Global Ratings is due to review Russia’s sovereign rating on Feb. 23 as investors including Amundi Asset Management predict it’s only a matter of time before the world’s biggest energy exporter is lifted out of junk. Russia’s foreign debt is still rated investment grade at Fitch Ratings, meaning an upgrade by just one other agency would make it eligible for inclusion in the global benchmarks that international funds follow, such as Bloomberg Barclays and JPMorgan Chase & Co. indexes.

Russia Back From Junk Could Bring $2 Billion Eurobond Inflow

“Russian Eurobonds could potentially experience significant inflows,” said Yury Tulinov, an analyst at SocGen’s Rosbank unit in Moscow. “Funds following just one of the main global bond indexes could trigger $1 billion to $2 billion of inflows,” or the equivalent of about 5 percent of Russia’s total outstanding state Eurobonds, he said.

Moody’s Investors Service and S&P cut Russia’s score to one step below investment grade in 2015 after the annexation of Crimea sparked international sanctions and a slump in oil prices sent the economy into a recession. Concern the U.S. would apply restrictions to Russia’s sovereign debt faded this month after the Treasury Department warned the penalties might rattle markets around the globe.

‘Forced’ Buyers

“What hasn’t been taken into account by the market is the possible huge inflow from forced investment-grade buyers, who track indexes,” said Eric Vanraes, who oversees a bond fund from Geneva for EI Sturdza Investment Funds, which has about $3 billion under management. While the return to investment grade is all but priced in, Russia would present “the best choice” among investment-grade emerging markets once upgraded, he said.

Even before the Treasury statement, Moody’s had encouraged investors by saying it would consider raising Russia to investment grade if the nation was burdened by the kind of penalties that crippled Venezuela’s finances. Moody’s put Russia on a positive outlook in January, lining it up for a possible escape from junk within 18 months. The agency also raised the rating for some non-financial Russian companies on Jan. 30, promoting Gazprom PJSC and Sibur Holding PJSC, among others, to Baa3, its lowest investment grade.

The prospect of an upgrade helped push Russia’s five-year credit-default swaps to the lowest level since 2008 earlier this month. The swaps fell to 117 basis points as of 11:23 a.m. in Moscow on Wednesday, down five basis points in the week.

Passive Money

The premium investors demand to hold Russia’s 2023 Eurobonds instead of U.S. Treasuries is down by almost half in the past year to 98 basis points. At the same time, the yield on Russia’s notes has climbed 54 basis points from a three-month low since the start of the year, with the pickup accelerating amid the global selloff. Fitch and S&P rank the nation’s local debt at investment-grade despite sanctions and the drop in oil.

“There’s a considerable amount of passive money in exchange-traded funds and other passive strategies, which become automatic buyers if Russia returns to investment grade,” said Jan Dehn, who helps manage Ashmore Group Plc’s $59 billion in emerging-market holdings from London.

While the Russian market is underpinned by low debt and demand for emerging-market assets, Dehn said an upgrade would “create a one-off positive effect.”

©2018 Bloomberg L.P.

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