LONDON Dec 18 A jump in prices of Ukraine's
dollar bonds since Russia offered a $15 billion bailout has
vindicated some of the world's biggest investors who bet
billions that the high-yield, high-risk creditor could avert
President Vladimir Putin's promise to buy Ukrainian debt in
a deal dictated more by geopolitics than economics has postponed
rather than eliminated the risk of Kiev defaulting.
Nevertheless, the audacity of funds such as Templeton,
Fidelity, Amundi and Goldman Sachs - all of which piled into
what is easily one of the world's riskiest debts - has been
Some even stepped up their Ukrainian bond holdings when the
market was falling in the second half of this year before Putin
struck the deal with Ukrainian President Viktor Yanukovich on
Tuesday, data from Thomson Reuters company Lipper shows.
Ukrainian bonds have jumped by 7 to 10 cents in the dollar
and some yields have halved from recent record highs since
Moscow promised to lend Kiev the $15 billion and slash its gas
import bills by around a third.
This bailout shores up Kiev's rapidly foreign dwindling
exchange reserve, staves off a collapse of the hryvnia currency
and should ensure repayment of around $7 billion in foreign debt
due over the coming year.
Fidelity's emerging market debt fund was among those that
increased their Ukrainian holdings when the market was falling.
"We knew the fundamentals in Ukraine were sub-par and we
were concerned about default risk, but the models we run look at
valuation and risk premium and those suggested we would be
compensated for taking the risk," said Steve Ellis, a portfolio
manager at Fidelity Worldwide Investments which has a total $160
billion in assets.
Ellis has proportionately slightly more invested in Ukraine
than its weighting in the underlying index, and said he planned
to maintain this small overweight position for now, rather than
cashing in on this week's gains.
"The market has rallied significantly and as a trader you
should be thinking of reducing risk after such a rally, but
valuations suggest there is still a bit of value left and we
think we can squeeze out some more gains."
Details remain hazy of the Russian bailout, which aims to
keep the former Soviet republic under Moscow's influence after
Kiev walked away from a trade deal with the European Union.
However, the promise has boosted Ukrainian bonds across the
curve and cut the cost of insuring the debt by a third in the
credit default swap markets. CDS now price a 40 percent default
risk over five years, versus over 50 percent late last week,
according to Markit data.
Short-dated debt, where the big funds are heavily invested,
took the hardest pounding in recent weeks but are also rallying
hardest. Yields on the 2014 bond, for instance, have collapsed
to 8.5 percent from 20 percent-plus last week.
The 2014 bond from state energy firm Naftogaz has also
jumped 10 cents in the dollar from the lows hit last week.
"From an investor's perspective it doesn't matter if the
money comes from the IMF or European Union or Russia. As
investors we look for the country to fix its financing with
regard to the current account and debt repayments," said Sergei
Strigo, head of emerging debt at Amundi, which has a total $1
trillion under management.
He had expected either Russia or Europe to provide aid
eventually, he said, but added: "It was a good day yesterday."
YIELD AND COUPON
Default fears of not, Ukraine is hard to ignore, given its 3
percent weight in the emerging bond benchmark, the JPMorgan's
EMBI Global index. The bonds also offer high fixed interest
rates - or coupons - which are costly to shun.
Like Ellis of Fidelity, many investors judged the coupon
cost of avoiding Ukraine as higher than the default risk. Yields
are among the highest on the index, and the coupons can be as
high as 9.5 percent.
Ukraine debt has lost almost 10 percent of its value this
year, making it among the worst performers on the index.
Nevertheless, a fund manager holding the bonds on a repayment
bet, would have enjoyed an 8 percent-plus return on coupons -
among the highest on the index, according to JPMorgan data.
The presence of big investors, including Templeton star bond
fund manager Michael Hasenstab, in Ukrainian debt has also
helped to soothe fears..
Even before the bailout, Ukraine's bonds had made some gains
off lows, with analysts at Bank of America/Merrill Lynch for
instance advising clients to raise their allocations on the
assumption that the bad news had already been priced in.
But further gains could be limited. Firstly, the bonds did
not fall below 80-85 cents for every dollar of face value,
possibly supported by the big buy-and-hold investors and
secondly, the Russian loan is a stop-gap rather than a long-term
game changer for Ukraine.
Strigo of Amundi said Ukraine was likely to hobble on with
more debt issuance, soon pushing its currently low debt ratio to
over 50 percent of its annual economic output.
Like most funds canvassed for this report, Strigo was
underweight longer-dated Ukrainian bonds, noting that the
country's recession, a fixed and overvalued currency and a big
current account deficit remained.
Also, Russia has demanded none of the reforms that would be
attached to any bailout from the International Monetary Fund or
the EU, meaning Ukraine can dodge vital but unpopular measures
for a while.
"A two-year financing hole is being gapped but in absence of
reform we will be revisiting this issue in two years time,"
Ellis of Fidelity said. "The hump in default risk has just moved
by a few years."