LONDON, Sept 27 (IFR) - Ukraine has muddled its way through several debt crises in the past, but investors and traders are concerned that default may finally be round the corner as the country’s finances deteriorate and its relations with Russia worsen.
When it was downgraded to Caa1 from B3 by Moody’s on September 20, it gained the dubious honour of joining the Triple C club alongside Cuba, Ecuador, Egypt and Pakistan.
Some observers, however, are playing down the risk of default, saying the country can still find a way to make its debt payments, which amount to more than US$10bn in hard currency in the coming year.
“Fears of default and devaluation in Ukraine are almost seasonal in nature and usually peak at the end of Q3 or beginning of Q4 and get forgotten as the winter holidays approach,” said Peter Attard Montalto and Dmitri Petrov, analysts at Nomura. The actual risk of default is still only moderate, they said.
Bond investors are not so sure. The sovereign’s 7.95% due 2014 sold off aggressively to hit a yield of 15.87% on Tuesday before recovering a touch to 13.9% on Thursday - an extremely high level for one-year risk.
Ukraine’s yield curve is hugely inverted, with the 2014 bond trading on Friday at a Z-spread of plus 1,398bp compared with plus 775bp for its 7.5% 2023 note.
On Thursday, a central bank official told Reuters that Ukraine would meet its debt repayment obligations on time, but the 2014 bond’s cash price only rose by 1/8 of a point to 96.25.
“The difference this time around seems to be that there is a political element to the problem, particularly the issues with Russia,” said a DCM banker who has worked on Ukrainian Eurobond deals in the past.
“There is growing concern that this will all provoke a full-scale trade war with Russia, with damaging consequences for the Ukrainian economy.”
Ukraine’s foreign reserves stood at US$21.65bn on August 31 - insufficient to cover three months of imports.
Worryingly for investors, Moscow has been angered by Ukraine’s apparent preference for a free trade agreement with the EU - due to be signed in November - over a customs union with Russia.
“There is growing concern that this will all provoke a full-scale trade war with Russia, with damaging consequences for the Ukrainian economy,” said Timothy Ash, an emerging markets analyst at Standard Bank.
Russia recently restricted Ukrainian exports by increasing non-tariff barriers for several weeks - a serious move as Russia accounts for around 25% of Ukraine’s total exports, Moody’s said.
Ukraine is also seeking a loan from the IMF, though it may find the conditions attached hard to swallow - particularly the requirement to cut gas subsidies just ahead of the 2014 general elections.
“Loss of confidence, locals fleeing the currency, a big current account deficit to cover, significant corporate balance sheet exposure to dollar debtit would be more painful for households if the default occurs than if gas subsidies are reduced,” said David Hauner, an analyst with Bank of America Merrill Lynch.
“But with an election coming up, I can’t see this happening,” he said. (Reporting By Abhinav Ramnarayan; Editing by Matthew Davies)