What to Know About Russia’s Possible Debt Default
Russia could default on its foreign debt if creditors don’t receive dollar payments due Wednesday
Russia has coupon payments totaling $117 million due on Wednesday on two dollar-denominated bonds.
By Alexander Saeedy and Caitlin Ostroff
March 16, 2022 5:30 am ET
The Russian government has a big set of interest payments due to foreign bondholders on Wednesday, setting the stage for the nation’s first default since 1998 and its first default on foreign debt since the Bolshevik Revolution.
Here’s what you need to know about the potential default.
Why might Russia default?
Russia has coupon payments totaling $117 million due on Wednesday on two dollar-denominated bonds. Punishing sanctions from the U.S. and EU have blocked Russia’s central bank from accessing much of its $630 billion in foreign-currency reserves, which in normal times it can use to pay its debts.
On Monday, Anton Siluanov, Russia’s Minister of Finance, said the sanctions on the central bank reflected a “desire of a number of foreign countries to organize a default that has no real economic grounds.” He said Russia is ready to make payments in rubles. The bonds, however, require payment in dollars.
If Russia makes the dollar payment, but foreign banks are unable to transact with Russia’s central bank because of sanctions, then money owed to foreign creditors will be held in special accounts inside of Russia. That would still likely be an event of default, since bondholders won’t be able to access the money when it’s due.
Despite the rhetoric, some Russian companies, such as Gazprom, have made on-time payments on their foreign debt in U.S. dollars, so it’s not clear what the Russian government will decide to do.
Are there any loopholes in the sanctions to allow Russia to pay?
Yes. The U.S. Treasury Department has decided to allow investors and banks to receive and process payments tied to Russian sovereign bonds until May 25. So it’s unclear if Russia won’t be able to pay or will refuse to pay.
When exactly will Russia default, and who decides it has defaulted?
If Russia doesn’t pay investors on Wednesday, a 30-day grace period starts the next day. That means an official default won’t come until April 15.
Then, if a quarter of the country’s creditors agree, they can declare Russia in default and try to force Russia to pay. Russian sovereign bonds have cross-default provisions, meaning that once it is deemed in default on one bond issue, it can be deemed in default on all its outstanding sovereign obligations. Court challenges to get Russia to pay would likely take place in the U.K., where many of the bonds were issued.
March 2022Dec.00.51.01.52.0$2.5 billion
The Russian government has another $615 million in payments to make by the end of March and another $2.1 billion in April.
Russia also has a robust local government bond market. Foreigners owned around 20% of those local government bonds coming into the war. Russia’s government blocked payments to foreigners on those bonds earlier this month, setting up a default on its local-currency debt even sooner, in early April.
How much foreign debt does Russia have?
Russia has been fairly restrained in raising money in recent years, partly out of prudence and partly because of previous rounds of sanctions. Russia hasn’t issued dollar-denominated bonds since 2019, when U.S. investors and banks were barred by sanctions from participating. Its overall outstanding foreign-currency debt is just under $60 billion.
Overall, the Russian economy came into the war with a manageable level of external debt of roughly 25% of the size of the economy. But that was when Russia had access to its foreign-currency reserves.
Who owns Russian bonds?
Foreign investors who run emerging-markets portfolios held Russian debt before the war, but Russia was just a slice of the global universe of bonds. Russian sovereign debt made up around 6% of a JPMorgan Chase & Co. local-currency emerging-market bond index and 2.7% of one for dollar bonds. JPMorgan said on March 7 that it would exclude Russian sovereign and corporate debt from all of its widely tracked fixed-income indexes. Many investors have already written down the value of the bonds.
What is the likelihood of a default?
Very high. Current trading prices for Russia’s sovereign bonds are quoted anywhere between 5 cents and 25 cents on the dollar, meaning that investors do not expect to be paid in full. Credit ratings agencies, economists and the IMF have all warned that a default is probable.
What will the impact be on Russia if it defaults?
Ratings agencies would cut the country’s status to default, meaning Russia couldn’t tap Western markets again until it worked out a deal with existing investors. Russia could turn to countries that haven’t imposed sanctions on Moscow, such as China. Venezuela borrowed from China after it was cut off by the West. After Russia defaulted in 1998, it was back at investment grade by 2003. Argentina has defaulted multiple times and yet after a change in government, was able to access markets again. Investors tend to have short memories.
Will foreign investors ever get their money back?
Some investors have sold off their holdings to opportunistic investors who hope, someday, to broker a deal with the Kremlin to recoup what they’re owed. Present sanctions, however, forbid most forms of engagement with the Russian Federation, so discussing the terms of a debt restructuring is, legally speaking, a long way off.
What happened when Russia defaulted in the past?
Russia’s last default on its foreign debt was in February 1918, when the newly installed Bolshevik Party repudiated the Russian Empire’s borrowings.
In August 1998, Russia defaulted on domestic bonds during an economic crisis made worse by oil prices as low as $10 a barrel. Foreign creditors to the Russian Federation ultimately came out unscathed, and their debts weren’t restructured. Ruble-denominated debt, more than 75% of which was held in the country, toosure. k a haircut, as well as some legacy debt incurred by the Soviet Union.
The 1998 default also triggered major volatility in U.S. markets, which led to the unraveling of hedge fund Long-Term Capital Management and required a Fed-organized bailout by major Wall Street banks.
Investors have taken out a type of insurance against default. When do they get paid for that?
Credit default swaps are contracts used by investors as a type of insurance in case a borrower fails to pay. Soon after Russia is deemed to be in default, an industry body that oversees the credit default swaps market would meet to determine whether proper terms of a default had occurred. If it deems that to be the case, the body would schedule an auction process, which would allow investors to settle their insurance claims and trade in the underlying bonds. Restrictions on trading in Russian sovereign debt might complicate the auction process.
—Caitlin McCabe contributed to this article.
Write to Alexander Saeedy at alexander.saeedy@wsj.com and Caitlin Ostroff at caitlin.ostroff@wsj.com
wsj.com
Payback time
Today is the beginning of what is likely a long battle over Russian debt, with $117 million in interest payments due on the government’s dollar-denominated bonds. If Russia fails to make the payments, that could be its first default on foreign debt since the 1917 Bolshevik Revolution. The Times’s Eshe Nelson, Alan Rappeport and DealBook’s Lauren Hirsch took a look at what’s at stake — and what could happen next.
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The state of play: The Russian government owes about $40 billion in bonds denominated in dollars and euros. Half of that debt is owned by foreign investors. Russian government bonds were considered investment grade as recently as a few weeks ago, and were included in indexes used to benchmark other funds.
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The big question: Will Russia pay in dollars or rubles? Russia says that sanctions cutting it off from the international financial system mean that it can only pay in rubles, and that doing so is an acceptable means of payment given the circumstances. Others disagree, and say that paying dollar-denominated bonds in rubles would constitute a default. Regardless, the payments due today have a 30-day grace period, so a default wouldn’t technically happen until mid-April.
How damaging would default be? Regulators say that a Russian default does not pose a systemic risk, because of limited exposure to the country’s assets, which many investors pared back after the annexation of Crimea in 2014. What’s more,? investors have already taken the financial hit: Russian bonds are trading at a fraction of face value. There has also been forced selling of bonds after the assets were kicked out of indexes. There is always the risk that there will be “some player that nobody has noticed that all of a sudden is in distress,” said Paul Cadario, a former World Bank official, with uncertain consequences for the broader financial system.
What happens next? It’s unclear what will happen to investors who bought credit default swaps on Russian debt, because it is uncertain whether Russia will be declared in default if it pays in rubles. And quirks of Russian bond contracts mean that bondholders have limited ability to sue if it does default. “It’s not to say that creditors won’t be able to take Russia to court and get a judgment,” said Jay Newman, who helped lead the 15-year legal battle against Argentina over defaulted debt at Elliott Management, “but it’s going to be a long, hard slog, and nobody knows what the rules are.” |
