Wall Street bets on Russian debt

Russian debt sell-off linked to Russian President Vladimir Putin’s campaign in Ukraine and sanctions that The events that followed opened the window to a new type of arbitrage that some in the financial world are absorbing as easy money.

The idea is what is known as a negative base deal, or the purchase of cheap Russian government or corporate bonds, along with credit default swaps, which act as insurance against a potential borrower default.

Data from the MarketAxess website shows that Russia’s sovereign debt stock stood at $7 billion between February 24 and April 7, up from $5 billion in the same period in 2021, a 35% increase.

Russian bonds are trading wildly, said Philip M. Nichols, an expert on Russia and corporate social responsibility and a professor at the University of Pennsylvania’s Wharton School. “There are a lot of speculators who are buying up these bonds that are heavily downgraded and on the verge of becoming junk,” he said.

Nichols says he gets calls all the time from analysts asking if a potential deal makes sense. “The spread on Russian sovereign debt is astonishing right now,” he said. “They make an unusual amount of money compared to volume.”

The cost of insuring Russian debt rose to 4,300 basis points on April 5 from 2,800 the previous day.

At the same time, bond rates have fallen sharply, with bonds maturing in 2028 trading at just $0.34 per dollar. This means that insuring $10 million worth of Russian securities could cost a little over $4 million. Economist reported.
Hedge funds such as Aurelius Capital Management, GoldenTree Asset Management and Silver Point Capital have increased their presence in the Russian markets, mainly by purchasing corporate bonds. It is reported by the Financial Times. in late March.
US financial institutions such as JPMorgan Chase and Goldman Sachs are facilitating these trades by connecting clients who want to close their positions with hedge funds that are more risk tolerant and less embarrassed about buying Russian debt.

“This is Wall Street,” said Cathy Jones, chief fixed income strategist at the Schwab Center for Financial Research. “It doesn’t surprise me that they saw some kind of loophole that they can use to make money.”

JPMorgan officials say they are acting as intermediaries, simply trying to help clients. “As a market maker, we help clients mitigate and manage their exposure to Russia in the secondary markets. None of the deals violate sanctions or benefit Russia,” the spokesman said.

The US is pushing Russia to the brink of default

If clients want to quickly get rid of their influence in Russia, they can turn to Russian oligarchs, who will gladly buy sovereign bonds, said Robert Tipp, chief investment strategist and head of global bonds at PGIM Fixed Income. The sale of Russian debt to US hedge funds keeps any accrued interest out of Russian hands.

The deals are legal and lucrative, Nichols said, but highly speculative and highly volatile with news of Russia’s invasion of Ukraine and further sanctions.

It also illustrates the disturbing disconnect between Wall Street and the real state of the world economy: typically, investors base their assessment of Russian debt on whether it will be repaid, and the likelihood of it being repaid depends on the strength and resilience of the Russian economy.

But that doesn’t happen. New U.S. Treasury Department sanctions on Tuesday, which blocked Russia’s access to any dollars they hold in U.S. banks, have greatly increased the chances that Russia will default on its debt and that its gross domestic product, the country’s main measure of economic strength, will fall.

This week, the US Congress voted to remove its most favored trade status, a major economic decline that will pave the way for deeper sanctions and controls on imports of goods Russia needs, such as chemicals and steel.

The deprivation of this status, according to Nichols, will interrupt the integration of Russia into the world economy. If Wall Street were connected to the real world, he added, it wouldn’t want to be even close to Russian debt.

“Russian debt is the preserve of those at risk,” Nichols said, “and institutions should probably stay away.”

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