A Quick Analysis of Russia’s Debt Crisis

In 1972, meteorologist Edward Lorenz presented a speech at the 139th meeting of the American Association for the Advancement of Science titled “Does the flap of a butterfly’s wings in Brazil set off a tornado in Texas?”

While no one can predict what is going to happen from here with Russia’s debt crisis, China’s push for Saudi Arabia to consider accepting yuan, or Venezuela’s hyperinflation chaos, it’s possible to understand the likely effects that these significant macroeconomic situations will have.
For the sake of condensing this read down to remaining ‘bite-sized’ as well as to thoroughly touch on each individual crisis, we’ll focus on Russia’s debt situation in this article and cover China and Venezuela in the coming weeks.

A quick scan of the problem:

Like most countries, Russia raises money from global investors through selling debt and paying interest on the bonds. This past Wednesday, Russia was obligated to pay interest ($117M) on two dollar-denominated bonds that mature in 2023 and 2043.
While there were concerns that Russia would either be unable to make their payment, or that if they did, it would be in a local currency as opposed to dollars, Russia says it has ordered the $117 million in interest payments it owes to be sent to investors, attempting to avoid its first international default in more than a century. But it’s important to note that Russia is not out of the woods yet.

That’s because the funds the country used to make the debt payments came from Russia’s frozen foreign assets, sanctioned from its ongoing attack on Ukraine; so it remains unclear whether investors will actually even receive their money.
Furthermore, a much larger ($2B) payment on another bond, which matures in 2030, is due on March 31. But its grace period is only 15 days, so Russia’s concrete deadline for that bond payment will be April 15. A spokesman for the Treasury said the United States would allow the payments to go through, but that does not guarantee that they’ll continue to allow it in the future.
Long story short? This will be an ongoing concern.

Fitch Ratings agency says default is imminent and the World Bank’s chief economist, Carmen Reinhart, says Russia is in “square default territory.”

The effects are already here, even before the real default:

• Pimco is bracing for potential losses linked to its billion-dollar exposure to Russian debt as the country moves closer to a sovereign default. It’s publicly known that the firm has amassed at least $1.5bn of sovereign debt. It also placed $1.1bn of credit default swaps on Russian debt at the end of 2021, which are up about 2800% since the start of the year.
• BlackRock has incurred a loss of $17bn on its funds exposed to Russian equities following the country’s ongoing invasion of Ukraine, reported The Financial Times. The firm had more than $18.2bn in Russian assets at the end of January 2021 which are currently frozen following the market crash and stringent sanctions announced on the country by the US and its allies.

Not only are asset managers going to be affected by this event, there are many banks with the large exposures to Russia, such as are Raiffeisen Bank International ($25bn), Société Générale ($21bn), and Citibank ($10bn) to name just a few.

The conclusion here is that this Russian debt concern will likely create multiple ‘ripples’ within broader financial markets over the foreseeable future. It’s also important to note that this event is not merely comparable to the 1998 Russian default, because so many additional variables across current economic and political environments are so different.

The level of correlation between markets of different areas, both speaking in terms of geographic location and sector, is significantly higher than 1988, and by valuing the current geopolitical landscape, we understand that if something bigger happens, it’s almost impossible to have an unaffected asset class.

Will markets continue to fluctuate with the news, or do you think they will/have already priced in these factors?

If you’re interested in learning about how to maximize your portfolio’s defense tactics during these uncertain times, please don’t hesitate to contact us at Surmount. We’re happy to help optimize your portfolio and comfort around it.