Analysis: Russia’s ‘political’ default sets precedent for emerging markets

  • Russia says it paid $100m in interest due May 27
  • The country was rated investment grade in early 2022
  • A default drives up borrowing costs for issuers

NEW YORK/LONDON, May 27 (Reuters) – Russia is on the cusp of a unique kind of debt crisis that investors say is the first time a major emerging market economy has been pushed to a bond default by geopolitics, rather than by empty coffers.

Until the Kremlin launched an attack on Ukraine on February 24, few would have considered the possibility of Russia defaulting on its hard currency obligations. Its strong credit history, bumper export earnings and inflation-fighting central bank had made it a favorite with emerging market investors.

But the US Treasury’s decision not to extend a license allowing Russia to maintain debt payments despite sweeping sanctions has set Moscow on a path to default.

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Russia’s Finance Ministry transferred some 0 million in interest on two bonds due Friday to its national settlement house. But unless the money shows up in the accounts of foreign bondholders, it will constitute a default by some definitions.

And even if the funds pass this period, payments of nearly $2 billion are due by the end of the year. One at the end of June is to be settled outside of Russia – a task that experts predict will be impossible without the US waiver. Read more

Emerging market debt crises are nothing new – Russia itself reneged on its ruble bonds in 1998. Geopolitics has also spilled over into the debt sphere before, for example forcing defaults in Venezuela and in Iran.

Yet in Iran’s case, small amounts of debt were hit by US sanctions after its 1979 revolution, while Venezuela’s economy was already on its knees before US restrictions in 2019 pushed $60 billion dollars of sovereign and sub-sovereign debt on the brink.

Meanwhile, Russia continues to reap profits from oil and metals. Even with half of its $640 billion war chest frozen by sanctions, the central bank has enough cash to pay off the $40 billion in hard-currency sovereign debt.

“This is a completely different crisis than other crises in emerging markets, it’s not about ability or willingness to pay, they technically can’t pay,” said Flavio Carpenzano, chief investment officer at Capital. Group, an asset manager who – like many others – had exposure to Russia before the war broke out. Read more

The impact is amplified by the fact that this would be Russia’s first major foreign bond default since the Bolshevik Revolution of 1917. Sanctions against Russia and its own countermeasures have effectively cut it off from systems global financials.

Comparisons with recent defaults such as Argentina in 2020 are inappropriate because most countries’ finances are strained when defaults occur, said Stephane Monier, chief investment officer at Lombard Odier.

“It would be the first external and political default in the history of emerging markets,” Monier said.

The expiration of the Treasury license means creditors may not be able to receive payments anyway, which Daniel Moreno, head of global emerging market debt at Mirabaud Asset Management, likened to “shaking up the world”.

“I, the creditor, are no longer willing to accept payment,” he added.


Russia’s international bonds, most of which started the year above par, lost value between 13 and 26 cents on the dollar. They were also ejected from the indexes.

A key difference with former defaulters such as Argentina or Venezuela is that Russia’s attack on Ukraine – which it calls a special operation – has made it a pariah in the eyes of many investors, likely for the years to come.

“There’s a huge stigma to holding these bonds, with emerging market asset managers coming under pressure from their clients asking them not to invest in Russia and to liquidate their positions,” said Gabriele Foa, portfolio manager for Algebris Global Credit Opportunity Fund.

For now, a potential default is symbolic because Russia cannot borrow internationally anyway, nor does it need to. But what comes further down the line is crucial.

Regime change in Russia could at some point end Western sanctions and allow it to return to the fold.

But first, creditors face a long and expensive process to recover money, such as exchanging defaulted bonds for new ones. Read more

A default stigma would also increase future borrowing costs.

By defaulting, “you’re increasing the cost of funding and it’s very likely that this will happen to Russia as well. They’ll have to pay a premium,” Capital Group’s Carpenzano said.

The White House expects a default to have minimal impact on the US or global economy, but Carpenzano believes events around Russia are forcing a reassessment of geopolitical risks in emerging markets. Read more

“Geopolitical noise has increased and investors would like to be compensated for this higher risk,” he said, citing China’s large investment outflows in recent weeks.

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Reporting by Davide Barbuscia in New York and Sujata Rao, Karin Strohecker, Marc Jones and Jorgelina do Rosario in London Editing by Susan Fenton

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