Russia CDS auction values defaulted sovereign bonds at 56.125 cents

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LONDON — Russia’s defaulted international bonds were valued at 56.125 cents on the dollar on Monday in a long-awaited auction to compensate holders of financial market insurance against default.

The auction, which had been thrust into confusion by financial sanctions on Russia following its invasion of Ukraine and had required a special waiver from Washington to take place, resulted in a final price rise from an initially-indicated ‘midpoint’ of 48.375 cents.

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Some holders of Russian bonds said the final valuation – just over half the bonds’ face value – reflected a view that the war has no end in sight and that Russia could remain in default and unable to make debt payments for years.

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“People are looking at this as a 10 year process rather than a two year process,” said one investor, declining to be named.

The two-part auction is part of a process to settle so-called Credit Default Swaps (CDS) – instruments designed to protect their holders against a default in hard-currency debt, in this case of the Russian government.

However, Western sanctions had made it increasingly difficult for Moscow to make payments on its nearly $40 billion of international bonds, eventually pushing the country into its first external default in decades, and also hampering the process of determining a payout on CDS.

The first part of Monday’s auction showed net open interest to buy stood at $502.4 million, said Creditex and Markit, who jointly run the auction process, in a statement posted online https://www.creditfixings.com/CreditEventAuctions/results.jsp?ticker=RUSSIA.

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Participating bidders in the auction were Barclays , Citigroup, Credit Suisse, Deutsche Bank , Goldman Sachs, JPMorgan, Merrill Lynch and Morgan Stanley, the statement showed.

The final pricing reached in the second part of the auction determines the value of the bonds and the amount of payout a CDS buyer will receive – in this case allowing the holder to recoup 44 cents for every notional dollar protected.

“Sellers of protection were more keen effectively to protect their interest in terms of how the auction settled,” said CDS market veteran Athanassios Diplas, who helped design the auction process.

“That’s what seems to have driven the final price almost eight points higher from the initial market midpoint,” he said, adding the gap was not shocking given the size of the imbalance.

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In a recent note, JPMorgan estimated there were just under $2.4 billion notional to be settled in Russian CDS, of which $1.54 billion are on single name contracts and the remainder on index positions.

Russia bonds ultimately settling at 56.125 cents in the auction meant that for every $10 million of CDS notional held, the buyer of that protection would have received $4.3875 million.

Before the invasion, Russia’s bond maturing a year from now – like many of its other issues – traded above par, or at more than 100 cents on the dollar. In early March the price had fallen to 14 cents. Liquidity dried up and many investors marked down their Russia holdings to zero.

Monday’s auction was made possible after the U.S. Treasury issued a waiver temporarily lifting its ban against Americans buying Russian sovereign bonds in secondary markets. Trading of bonds is required in the settlement process to help establish a fair price and determine the payout for protection holders.

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In theory, that process allowed investors to add to their bond holdings, however, for many this did not make sense, said one investor.

“What’s the point of going long Russian bonds at this point and receiving some maturity in 2043?” said the hedge fund manager who opted to settle his CDS contracts on Monday.

“Sure, locals might be doing it but those of us with institutional investors in the EU and the U.S. cannot – there’s no way they’d be comfortable with this.”

Russia calls its actions in Ukraine “a special military operation.”

(Reporting by Karin Strohecker, Nell Mackenzie and Marc Jones in London and Rodrigo Campos in New York; Editing by Tomasz Janowski and Josie Kao)

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