On Friday, both S&P and Fitch reviewed Russia’s long-term rating. Fitch affirmed its BBB- rating, with a positive outlook; having maintained its investment grade (IG) rating while S&P and Moody's came under pressure to downgrade Russia to BB+/Ba1 in 2015. Markets were, therefore, more focused on the outcome of S&P’s review.
On the back of reasonable levels of economic expansion and a more solid fiscal position (resulting from stronger oil prices), there was a high expectation that S&P would upgrade Russia to investment grade, especially as the rating agency has had a positive outlook on the country for a while. It was therefore not a massive shock when S&P announced its one notch upgrade to Russia’s long-term rating, to investment grade BBB-, stable outlook. The rating agency reported that the government’s “commitment to conservative macroeconomic policies will likely keep Russia’s external and fiscal balance sheets strong”, adding that this coupled with a “flexible exchange rate, will enable the economy to absorb shocks that could come from tighter sanctions or commodity prices.”
Russian bonds, therefore, qualify for inclusion within most investment grade bond indexes. If we look at current tight global yields, investors will no doubt look to grab Russian bonds; in fact, the 10-year USD and local benchmark bond yields have already fallen this morning from Friday's 4.3% and 7.3%, to 4.24% and 6.93%, respectively. Another thing to note is that the US sanctions do not extend to government debt, and post the US Treasury review earlier this month are unlikely to in the near future.
We do not invest in Russian sovereign paper currently as we prefer hard currency quasi-sovereign bonds which are of strategic importance to the government and have been supported in the past if needed, and offer much wider spreads verses similar government issues. The Russian sovereign 7.5% 2030, for example, is currently trading 2.6 notches expensive, as its spread of 77bps over USTs, is tighter than that of similar bonds, which trade at ~130bps. In terms of our holdings within Russia, these have been amongst the best performing bonds across our portfolios over the past couple years. We currently hold the likes of state-owned Gazprom 8.625% 2034s and Russian Railways 7.487% 2031s (GBP issue). Incidentally, at the end of January, Moody’s revised the ratings for Gazprom and RZD one notch higher to Baa3, taking them in-line with Fitch’s BBB-. These bonds have held up relatively well over the past couple weeks through the global bond sell-off, and continue to offer attractive risk-adjusted returns and yields of ~12% and 18%, and comfortable credit notch cushions of ~2 and 2.7, respectively.