US freezes Russian bonds: to punish Putin or shoot itself in the foot?

Congressmen interested in bonds

The news about a possible expansion of sanctions against the Russian sovereign debt is unlikely to be called a complete surprise – the nervousness about this has conserved since last year. It was said to be one of the most painful measures that the USA could take against Russia.

Some people expected the prohibition of bonds to be announced as early as early 2018. Instead, the US Department of the Treasury made the ''Kremlin dossier'' public – a list of 210 public functionaries, managers and businesspeople, who, in Washington's opinion, were close to President Vladimir Putin. All people listed in the ''dossier'' were threatened to be imposed individual sanctions, they were really imposed against many people (for instance, businessman Oleg Deripaska, head of VTB Andrey Kostin, senator Suleyman Kerimov) after extending sanctions on 6 April.

But matters didn't come to the prohibition to hold Russian state obligations despite fears. Moreover, the US Department of the Treasury thought such measures would be harmful to not only Russia: according to Bloomberg, its special report said it would lead to negative consequences for the global financial market and companies.

In late January, the US Department of the Treasury made the ''Kremlin dossier'' public – a list of 210 public functionaries, managers and businesspeople, who, in Washington's opinion, were close to President Vladimir Putin. Photo: kremlin.ru

It calmed investors down, but not for long. On 4 April, the US Congress received a bill Stand with UK against Russia Violations Act. It prohibits US citizens transactions related to Russian bonds – but not all, just the new ones.

It's presupposed President Donald Trump must approve the prohibition within 90 days after the bill was introduced. But de facto the potential sanctions will come into force later – they will affect the papers that will be emitted 180 days after the law comes into force.

Joaquin Castro – a member of the Democratic Party for Texas – is the author of the bill. The poisoning of ex-spy of the Main Intelligence Directorate Sergey Skripal and his daughter Yulia in British Salisbury was the reason for this bill. London thinks Russia is implicated in the poisoning, though British chemists couldn't prove the substance the Skripals suffered from was made in Russia.

The news about possible bond restrictions coincided with a general information background around the situation in the Russian fund and currency markets. The panic about the new round of sanctions declared last Friday made stock prices of all Russian public companies collapse on Monday.

Joaquin Castro – a member of the Democratic Party for Texas – is the author of the bill. The poisoning of ex-spy of the Main Intelligence Directorate Sergey Skripal and his daughter Yulia in British Salisbury was the reason for this bill. Photo: wikimedia.org

After auctions on 9 April, the index of Moscow Exchange reduced by 8,34%, while RTS Index – by 11,44%. On 10 April, the market started to correct a bit, Moscow Exchange Index added 3,6%, and another 0,85% on 11 April. The ruble decreased against the dollar and the euro on Monday and Tuesday: the dollar's price in the market has exceeded 64 rubles first for a long time, the euro rate crossed 80 rubles (it bounced a bit back by the end of the day).

The buzz in the markets brought to a rise in Russian obligation rates. Due to the negative situation, the Ministry of Finance of Russia has decided to cancel the auction to place OFZ bonds, which was scheduled for 11 April, first since August 2015.

Painful blow or shooting oneself in the foot?

Experts don't have a single opinion about the possibility of the prohibition of transactions related to Russian public obligations and the consequences of this prohibition.

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  Ivan Manayenko director of Veles Capital's analytic department

  The share of non-residents [among OFZ bond holders] is too big – more than 33%. It's not only American investors but foreign, in general. In addition, it's not clear how many our own investors there are among the non-residents (formally, many subsidiaries of big Russian banks aren't residents as well). But the USA can impose their sanctions against European banks too that can be punished for cooperation with sanction-related stories. Yes, this will have quite negative consequences, at least at the first stage.

  First of all, it will affect the ruble rate. What we're seeing now is the reaction to the departure of investors of the debt market. There were two-day sales, then the situation stabilised, moreover, it changed by one statement [of Trump].

  Considering the volumes of the OFZ bond market, in case of prohibition, there aren't so many departures. The question is how Russian monetary authorities will behave. They probably can take some suppression measures and try to purchase part of the papers.

  If the sale of the public debt starts, it will lead to a rise in rates. In this case, the OFZ award will be noticeably bigger. As for further coverage of the budget deficit, the story is complicated. Perhaps, there are some shortcuts.

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  Konstantin Korischenko financier, former deputy chairman of the Central Bank

  Both our, American and other parliaments always had, have and will have bills that have an absolutely situational, instantaneous character. One can imagine many other hypothetical things – dollars will be cancelled tomorrow, rubles will be prohibited, something else. From my point of view, the possibility of the approval of such a bill is similar.

  In my opinion, everybody came to quite an obvious conclusion that the imposition of such a ban is what is called self-harm in the army – to shoot oneself in the foot. I've not heard another opinion at least among those whom I discuss this with.

  The volume of the debt that's in foreigners' hands today is considerably bigger than free liquidity of the Russian banking system. And Russian banks will purchase these debts for good prices with pleasure. The income that foreigners got from the Russian sovereign debt is so that one can get it in few places. What's the sense? Of course, the American government can pursue the goal of doing harm to its own banking system and its own funds. But I think they have enough problems.

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  Denis Gorev asset manager at General Invest

  It's hard to say whether the probability that the USA really imposes sanctions against OFZ bonds is high. Much turns on whether agreements on Syria will be reached (it's still early to speak about de-escalation). Speaking of not only American but foreign investors, in general, their share of OFZ bonds is at 34% now. The risk of their quick departure exists, which can affect the ruble.

  The prohibition of purchase of public bonds, it goes without saying, threatens Russia with serious consequences. Without foreign investors, demand for the ruble debt will be much lower, it will lead to a rise in profit margins in it and affect the general situation in the Russian market. If the prohibition also affects old bond emissions, their sales will bring to a considerable fall in rates and continuing pressure on the market.

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  Andrey Kochetkov analyst at Olkritie Broker

  The probability of the prohibition of transactions of the Russian public debt isn't so high. In any case, head of the US Department of the Treasury Steven Mnuchin continues being against it. In general, the treasury department says about the necessity to impose sanctions against Russia very carefully.

  There isn't accurate information about the nationality of non-residents. But the very share of foreign OFZ holders grew from February to March (from 2,27 to 2,33 trillion rubles in monetary terms). In other words, even in the expectation of prohibitions, non-residents expressed high interest in the Russian public debt. Moreover, the prohibition of purchase of new papers only is a more probable option of sanctions.

  Of course, the prohibition can have a negative impact. But it won't be a big problem. The budget deficit will remain under control, while the current weakening ruble reduces the urgency of borrowings, as it happens at the same time with oil price growth. This is why the budget revenue isn't affected. If such a situation maintains, the Russian Ministry of Finance can do with small placement. If mass sales threaten the market, the Central Bank has mechanisms to fulfil quantitative programmes. As for the rest, profit margin of Russian obligations is quite high to stimulate non-residents to look for possibilities of OFZ bond purchases circumventing American sanctions.