If Russia is unable to pay its foreign debt, the next question is what comes next. The Russian government is expected to find alternative ways to pay its debt. While Russia’s energy sales have buoyed the country’s economy, it is unlikely to find it easy to avoid the financial institutions. Analysts, including Ariel Cohen, doubt Russia’s ability to pay its bondholders.
$100 million in foreign debt payments
The US Treasury will allow a key sanctions waiver to expire on Wednesday, which is good news for American investors. If it isn’t renewed, US banks and individuals will no longer be able to accept payments for Russian government bonds. This license to receive cash from Russia expires on May 25, 2022, at 12:01 a.m. EDT. Until that time, however, Russia can continue receiving payments for its bonds.
If Russia defaults, it will not be able to gain access to Western markets until it can pay back its creditors in full. In addition to its financial liabilities, creditors can take physical assets, such as a presidential jet or a navy vessel. Once Russia has defaulted on its debts, trade barriers may also be created. Countries that normally transact with Russia could pass laws that prevent them from doing business with defaulting entities.
So far, Russia has avoided default by sending money through the international financial system, but it has been experiencing time lags in payments. In addition, the funds for the Russian bond redemptions have not yet reached bondholders. One investor in Russian debt said that his fund had not yet received payments. However, it’s important to note that Russia still has a 30-day grace period to make payments.
In the meantime, the U.S. Treasury has made three payments on Russia’s international debt. Two of these payments were settled in the NSD. The third payment, due on June 24, will be settled offshore and has a grace period of 15 business days. If it doesn’t make its payment on time, Russia will default. This isn’t a bad thing; the next two payments will be due on May 23 and 24.
A forced debt default would be another black mark for Russia’s history. As such, experts offer varied assessments of the immediate effects of such a move. Despite the fact that Russia is already facing trouble raising funds from international creditors, U.S. Treasury Secretary Janet Yellen downplayed the potential repercussions. She pointed to investor flight over the war. But it’s hard to predict what will happen to Russia’s superpower status.
The announcement comes amid a broader financial campaign against Russia aimed at stopping Putin’s aggression in Ukraine. Western countries have imposed heavy economic sanctions on Moscow, including bans on the Kremlin’s foreign currency reserves and the freezing of key technology imports. A default will not impact the economy in Russia much, though. In fact, the U.S. Treasury is allowing Russia to use its foreign currency reserves to a lesser extent than they had previously.
$1 billion in coupon payments through the rest of 2022
Evergrande Group will miss interest payments on more than a billion dollars in dollar bonds through the rest of the year. Evergrande has no onshore bonds maturing in 2019, and will be facing $340 million in offshore coupon payments through the rest of 2022. The company has not yet filed to sell its shares on the Hong Kong stock exchange. However, it has warned that default on its debt could cause a financial crisis.
Despite the recent crisis, Russia still has plenty of cash in its bank accounts. It receives billions each week from commodity sales and owes at least $1 billion in coupon payments through the rest of 2022. In fact, not all of those payments will be barred once the May 25 deadline passes. As long as U.S. investors divest from Alfa-Bank and Alrosa before that date, they will not technically default until the end of July.
Credit default swaps triggered by non-payment
The current situation in Russia has led to a heightened risk for investors. The country faces three bond payments in June, including two that are settled at NSD and one that is settled offshore. Although Russia has a grace period of 15 business days to make these payments, the potential for non-payment by Russia is now high. Those who have CDS may be looking for protection as the Russian government continues to fail to make its payments.
The current crisis is far more serious for Russian borrowers than the 1998 debt crisis, when the country defaulted on its debt and the rest of the world rallied behind it. The current situation, however, is of Russia’s own making. According to a Bloomberg Opinion columnist covering European markets, “The Russian government tried to make a $649 million payment due April 6 on two dollar bonds to an unnamed U.S. bank. This payment was delayed until it unfrozes its central bank reserves.”
As a result, investors are scrambling to sell off their Russia sovereign debt. But investors need to understand that credit default swaps are a type of insurance that guarantees that if a debt issuer does not pay, investors will be compensated near-full value. However, Russia’s failure to make these payments has caused a spike in trading in credit default swaps. It is a sign that other Russian entities may suffer the same fate.
Because of the recent turmoil in Ukraine, credit default swap prices for Russia have skyrocketed. Investors can purchase a credit default swap to protect themselves from a Russian default, but this can cost up to $10 million. However, if Russia does not pay up, the credit default swap prices will also rise. In the past, $10 million in Russian debt was insured at $4.84 million, but that amount is now more than doubled, which means that the risk of defaulting on a $10 million debt is now almost nine times greater.
While Russian government denies that it is on the brink of a default, recent restrictions on Russian government debt from U.S. banks have effectively prevented payment on both bonds. If Russia does not make the payments by May 4, the payments could be regarded as default under the bonds. This would trigger a Credit Event. So, the question is, will the credit default swaps trigger as a result of Russia’s non-payment?
Despite the risk of a Russian default, the market for credit default swaps derived from Russian government bonds continues to surge, reaching record highs in recent months. The sanctions have no impact on CDS contracts directly, but they have affected trading volumes in the Russian debt market. If Russia fails to pay its debts, the settlement process would require delivery of the sanctioned bonds to the counterparties. This would increase the risk of recovery for investors, which is not good news for the Russian government.
