Gazprom Neft, the oil-producing arm of the state-owned energy behemoth, issued a bond on August 24 that yields 9.4%, the lowest yield issued by any Russian corporate in the last two and half years. Russia's bond market is not exactly on fire, but investment into its fixed income instruments is now flowing in and gathering momentum.

"We have seen significant interest from the investment community in the company's bond placement, which proves the effectiveness of the chosen instrument and timing," said Aleksey Yankevich, Gazprom Neft's deputy CEO responsible for finance. "This was the company's third public bond placement this year, and it has achieved the lowest coupon rate of all Russian corporate bonds issued in the last 2.5 years."

The Gazprom Neft bond is only the latest in a string of issues as international fixed-income investors ignore the standoff with the West over issues including Russia's annexation of Ukraine and its intervention in the war in Syria. The 9.4% yield is the lowest Russia has seen in a couple of years, but compared with the near zero interest rates bonds are paying in traditional markets, the returns for the increasingly yield-hungry bond investors are simply too high to ignore.

Russian corporate external debt has handed investors a return of 11% this year and last year it was the best performing bond market in the world, handing investors a 17% return.

It remains open to debate if Russia's relations with the West are going to improve any time soon, but for these investors it is enough at the moment that they can't get much worse. And Russia's economic story is improving. A basket of recently release positive macroeconomic indicators suggest that the worst of Russia's economic recession is over, even if a full recovery has yet to get under way. Economic contraction in the second quarter was only 0.6%; July saw the first bout of deflation in five years and the country's hard currency reserves have remained stable at just under $390bn, despite widespread predictions that Russia would run out of money following the collapse of oil prices at the end of 2014.

Companies and the state have started to cash in on this congenial aliment of the macroeconomic planets, most notably with the government issue in May of a $1.75bn Eurobond that matures in 2026. While international investors shied away from the issue due to pressure applied by the US State Department, they have been buying the bond on the secondary market after it was belatedly included in the Euroclear international settlement system at the end of July. Now the bond has the tacit approval from at least the international investment community, the government has suggested it may come back for a second helping and take the issue up to $3bn to help plug the projected 3.5% of GDP budget deficit for this year.

However, the importance of the Russia 2026s is not the money raised – insufficient to make a meaningful dent in this deficit – but its role as a benchmark for corporate issues that are now coming to market. Those bonds were placed with a yield of 4.7%. In effect these bonds issues, and the increasingly popularity of the OFZ (Obligatsyi Federal'novo Zaima, or Federal Loan Obligations) issued by the Finance Ministry are chipping away at the financial sanctions imposed on Russia following its annexation of Crimea in March 2014.

Gazprom Neft closed the order book for its RUB15bn ($230mn) of Series BO-01 and BO-04 domestic bonds with a long maturity of 30 years, but which include a 5-year put option and pay a semi-annual coupon.

If the sovereign 2026s Eurobonds were a hard sell, the Gazprom Neft bonds were selling like hotcakes. According to a company statement, the placement "attracted significant investor demand with more than 40 orders submitted and was nearly 3x oversubscribed", which allowed the issue to close with a yield that was only 90 basis points over the Russian government OFZ curve.

And this was a significant new addition to the Gazprom Neft bond family: it already has three outstanding plain vanilla domestic bonds totalling RUB30bn ($460mn) and three issues of exchange bonds (BO) worth $35bn.

Russia is riding the wave of a binge on emerging market debt of all sorts in the increasingly return-thirsty global capital markets, driven in part by there being nowhere else to go to make money on fixed income.

Emerging markets now make up 16.5% of US global bond funds, a four percentage point gain since the start of the year, and global bond funds have more money invested in emerging markets (EM) debt than at any time in the last four years, Bloomberg reports, citing Morningstar research.

On the other side of the coin, the scale of bonds with negative real interest rates has reached "unprecedented levels", international ratings agency Standard & Poor’s (S&P) warned in a report in August. Collectively an estimated $10 trillion worth of developed markets (DM) bonds are now guaranteed to lose their owners money.

"The European Central Bank and the central banks of Denmark, Japan, Sweden and Switzerland have all adopted this drastic policy strategy. In fact, countries with negative policy rates cumulatively represent nearly 25% of global GDP according to the World Bank and are home to nearly 500mn people," S&P said in the report. "We also note that more than half of world's sovereign bonds in a key S&P Global Index—the S&P Global Developed Sovereign Bond Index—carry negative interest rates."

 

Central banks with negative interest rates
	Introduced	Present
ECB	June 2014, deposit rate cut to -0.1	-0.4, since March 2016
Japan	2016 at -0.1%	Still in effect
Sweden	Feb 2015, repo rate cut to -0.1%	Repo rate at -0.5%, since February 2016
Switzerland	January 2014 at -0.25	-0.75%, since January 2015
Denmark	July 2012, main policy rate at -0.2%	-0.75%, since early 2015
source: S&P

 

 

Still, Russia is not out of the woods yet as the spread between an issue from a quasi-sovereign like Gazprom Neft and the Russian 2026s is still counted in whole percentage points, whereas in the pre-2008 boom years it was in the tens of basis points.

And the volumes of bond issues remains very small by historical standards. Russian firms raised less than $3bn in overseas debt in 2015, a far cry from the $60bn or so they issued annually before 2014. At the start of 2016, Bank of America Merrill Lynch expected volumes to triple to the still low level of $10bn of issues this year.

But thanks to the growing enthusiasm, spreads are already rapidly narrowing even if volumes remain depressed. The difference in yields on state-owned oil major Rosneft, which is sanctioned by the West, and those of its sister company Gazprom, which isn't, has shrunk to close to the levels that preceded the crisis that erupted in 2014, reports Bloomberg.

That is a big change in attitudes and augurs for a lot more bond issues in the near future. In theory, the financial sanctions do not apply to non-sanctioned companies and banks, but after the US government fined BPN Paribas a record $9bn for breaking sanctions on Russia in 2014, compliance departments around the world marked Russian assets down to "toxic nuclear waste" as the risks of dealing with a company that may end up on a sanctions list had become entirely unpredictable. What is new today and allowing investors to get into Russian bonds is not if the sanctions might be lifted soon, but the confidence that they won't be expanded.

The difference between sanctioned and non-sanctioned companies might return in the next two years when some $82bn worth of debt comes due, most of which will have to be refinanced.

Rosneft has the heaviest refinancing burden in Russia in 2017 and 2018 with $8.4bn of foreign-currency bonds and loans coming due, according to data compiled by Bloomberg.

 

Top 20 corporate issues in CEE/CIS, by volume, USD millions
Rank	Issuer	Country	Arranger	Amount ($)	Amount (local currency)	Currency	Maturity	Coupon (%)	Issue date
1	Vnesheconombank	Russia	VTB Capital, Gazprombank, Sovcombank	600,000,000	600,000,000	USD	07/15/2021	Coupons 1-10:  4.9%	07/21/2016
2	Vnesheconombank	Russia	Bank ZENIT, BK Region, Sberbank CIB, Russian Agricultural Bank	312,797,647	20,000,000,000	RUR	07/23/2019	Coupons 1-6: 10.15%	07/26/2016
3	Vakifbank	Turkey	Vakif Yatirim	268,660,436	787,030,000	TRY	12/02/2016	0%	07/28/2016
4	Development Bank of Kazakhstan	Kazakhstan	Kazkommerts Securities	250,870,669	85,000,000,000	KZT	06/30/2017	14%	08/03/2016
5	Transneft	Russia	Gazprombank	234,598,235	15,000,000,000	RUR	08/03/2023	Coupons 1-14: 9.45%	08/11/2016
6	SIBUR Holding	Russia	Gazprombank, Sberbank CIB	155,744,318	10,000,000,000	RUR	07/22/2026	Coupons 1-6: 9.5%, coupons 7-20 are set by the issuer.	08/03/2016
7	Halk Finansal Kiralama	Turkey		125,000,000	125,000,000	USD	01/20/2017	0%	07/28/2016
8	YAPI KREDI FINANSAL KIRALAMA	Turkey	Yapi Kredi Yatirim	117,600,000	117,600,000	USD	01/13/2017	0%	07/18/2016
9	DeltaCredit Bank	Russia	ROSBANK	109,021,022	7,000,000,000	RUR	07/21/2026	Coupons 1-6: 10.3%, coupons 7-20 are set by the issuer	07/21/2016
10	Sovcombank	Russia	Sovcombank Joint Book-Running Manager: GLOBEXBANK, RosEvroBank, HCFB, Expobank, Transcapitalbank Underwriter: Asian-Pacific Bank, Metcombank (Urals), Credit Bank of Moscow, National Standard Bank JSC, Septem Capital, Tinkoff Bank	109,021,022	7,000,000,000	RUR	07/30/2021	Coupons 1-2: 11.9%, coupons 3-10 are set by the issuer	08/05/2016
11	Koc Fiat Kredi	Turkey	Yapi Kredi Yatirim	98,994,354	290,000,000	TRY	08/08/2018	11.13%	08/10/2016
12	BINBank	Russia	FC Otkritie Bank, BK Region, Sovcombank, Vneshprombank	93,446,591	13,000,000,000	RUR	06/02/2021	Coupons 1-2: 14.5%, coupons 3-4: 14%, coupons 5-12 are set by the issuer.	07/29/2016
13	Yapi Kredi Yatirim	Turkey		83,223,529	243,800,000	TRY	10/27/2016	0%	07/28/2016
14	Finansbank	Turkey	Finans Yatirim	81,690,824	239,310,000	TRY	10/21/2016	0%	07/22/2016
15	Belarusian Railway	Belarus	ASB BROKER	80,000,000	80,000,000	USD	05/23/2019	9%	08/04/2016
16	Deniz Leasing	Turkey	Deniz Yatirim	78,512,763	230,000,000	TRY	10/07/2016	0%	07/15/2016
17	Russian Agricultural Bank	Russia	VTB Capital, Russian Agricultural Bank	78,199,412	5,000,000,000	RUR	Perpetual	Coupons 1-20: 14.5%, others - according to issuer documents.	07/15/2016
18	Russian Agricultural Bank	Russia	VTB Capital, Russian Agricultural Bank	78,199,412	5,000,000,000	RUR	Perpetual	Coupons 1-20: 14.5%, others - according to issuer documents.	07/18/2016
19	Alfa Bank	Russia	Alfa Bank	77,872,159	5,000,000,000	RUR	07/24/2031	Coupons 1-4: 9.75%, coupons 5-30 are set by the issuer.	08/11/2016
20	MOESK	Russia	Gazprombank, ROSBANK, VTB Capital	77,872,159	5,000,000,000	RUR	07/16/2026	Coupons 1-8: 9.5%, coupons 9-20 are set by the issuer.	07/28/2016
21	Mostotrest	Russia	VTB Capital	77,872,159	5,000,000,000	RUR	07/07/2026	Coupons 1-6: 11.5%, coupons 7-20 are set by the issuer.	07/19/2016
22	Mostotrest	Russia	VTB Capital	77,872,159	5,000,000,000	RUR	07/29/2026	Coupons 1-10: 11.15%, coupons 11-20 are set by the issuer.	08/10/2016
23	PIK Group	Russia	FC Otkritie Bank	77,872,159	5,000,000,000	RUR	07/24/2026	Coupons 1-6: 13%, coupons 7-20 are set by the issuer	08/05/2016
24	X5 Finance	Russia	VTB Capital, Raiffeisen Bank, BK Region, UniCredit Bank	77,872,159	5,000,000,000	RUR	08/01/2023	Coupons 1-5: 9.75%, coupons 6-14 are set by the issuer.	08/09/2016

Source: Cbonds