Russian Fixed Income Daily
- We recommend Yakutia-5, IrkutskReg, Moscow-39 among munis
- Target for Rosbank: 8%
- Gazprom-3 downgraded to Hold on good performance...

FX and money market

On Tuesday, the Russian FX market trading activity was calm on moderate volumes. The rouble felt some upward pressure on the back of euro’s appreciation against the dollar, and as a result, it performed around RBL/US$28.53-28.55. However, this trend was short-lived and by the end of the day the euro rebounded again showing its weakness which pushed the rouble to RBL/US$28.57. Today we expect the rouble will continue to following the euro and to see it in the range of RBL/US$28.57-28.62. On the other hand, the spill of oil proceeds in the market will probably limit rouble’s drop.

Olga Golub, Moscow (7 095) 755 5176

Rouble bond market

Tuesday was a more active day than the slow Monday with exchange turnover rising in all market sectors. Price action was neutral in government papers and marginally positive in both municipal and corporate sectors, especially in the second-tier corporate bonds. The local debt market was supported by strong Russian Eurobonds, but this effect was countered by the falling rouble.

Russia’30 traded yesterday as high as 112.4375 thus establishing a new historical top. This became possible as US10Y finally broke the 4.2% level and descended in yield to current 4.18%. This movement supports our short-term positive view for US Treasuries: we believe that level 4% is likely to be reached by US10Y already in the beginning of September, which will take Russia’30 to 114. Below this point, US10Y will meet the upward sloping trendline support (on the yield chart), which in the first half of September will be located slightly above 3.9%. Then the future direction of US10Y will depend on whether the benchmark succeeds in breaking this support as well, or will be pushed up from it following the possibly strong American unemployment data release on September 2 or the next FOMC decision on September 20.

Municipal bonds

Price changes for most liquidly traded bonds in the secondary market: Moscow-39 +11bp, MosReg-5 +4bp, KrasnoyarskReg-4 +6bp, NovosibReg-2 +2, Yakutia-5 +5bp.

As we are currently mostly looking at conservative, relatively short-term issues, we would like to recommend buying the flowing non-Moscow bonds.

Yakutia-5 (B+ from Fitch, 8.03% to maturity in 20 months) is looking at least 15bp above its fair YTM level. In addition, the bond possesses higher liquidity than many other municipal bonds due to significant issue size (RBL2bn).

Similar to this, IrkutskReg (B from S&P, 8.05% for 2 years) is offering a premium of at least 15bp to its fair value, thus offering a price upside of 20-30bp.

We also continue to recommend buying bonds on the long end of the Moscow curve (Baa3/BBB-). Specifically, we believe that Moscow-39 is now strategically the most attractive investment in the sector. Currently, the paper is trading at 7.81% to maturity in 9 years, while our target for it is located at 7.6%.

Corporate sector

Price changes of corporate benchmarks in secondary trading: Gazprom-3 +18bp, Gazprom-4 -11bp, Lukoil +14bp, RZhD-3 +3bp, FSK UES +3 bp. Second-tier bonds: Megafon-3 -10bp, UrSi-4 +10bp, CenTel-4 +23bp, ChTPZ +22bp.

We continue to recommend Rosbank (Ba3/B-) issue as one of the most undervalued in the mid-term segment of the corporate sector. Currently, the bond is yielding 8.4% to put in 18 months, while its fair level is located below 8%.

As indicated above, Gazprom-3 yesterday grew 18bp, reducing its yield from 6.6 to 6.46% to maturity in 17 months. Due to this movement, we are downgrading the bond from But to Hold, as we believe it still possesses enough investment value to leave it on position. In the short-term perspective the bond can reach level 6.25%.

Meanwhile, another bond that we recommended for buying yesterday, RusAl-2 gained only 5bp and reached yield level 7.69% to maturity in 21 months. We maintain our Buy recommendation regarding this issue, as we believe it can easily reach level 7.5% in the nearest future.

Short term market view

Our general recommendation regarding long rouble bonds is now a Hold, having been recently upgraded from a Sell. Now the market appears to be in preparation for another growth round we should see in the first half of September, but we believe it is too early to start accumulating long bonds now, as selling is still possible on large tax payments due tomorrow and on August 29.

Dmitry Dudkin, Moscow (7 095) 755 5480

City of Moscow: 2006 budget

2006 budget draft was approved by the government

Yesterday, City of Moscow’s government approved 2006 budget draft. Budget revenues have been set at RBL460.7bn (US$16.2bn), budget expenditures were increased to RBL474.9bn (US$16.7bn). As a result the budget deficit is planned to remain modest at RBL14.2bn (US$0.5bn, or 3% of revenues). Despite this we believe City of Moscow is likely to enjoy additional budget revenues in 2006, the government’s expenditure appetite is also likely to increase. Taking into account, that City of Moscow will redeem at least RBL16bn we believe that it will continue aggressive borrowing in the domestic debt market (Please note that according to the law, Russian regions can issue new Eurobonds, or borrow abroad, only to finance foreign debt redemption). With a healthy combination of high credit quality and solid liquidity of bonds, investor’s demands for new City of Moscow bonds is more than likely to allow the Moscow government to place RBL30-40bn in 2006.

Investment implications: The City of Moscow budget for 2006 looks realistic. Taking into account the budget deficit target and redemptions scheduled for 2006, we expect City of Moscow to place RBL30-40bn of new rouble bonds in 2006. Spreads over the sovereign curve are likely to drop to zero again in 2006 (currently, the average spread over the sovereign curve is 40-50bp, which is caused by soaring OFZs with parallel improvements in their liquidity, and no new issuances of City of Moscow).

Julia Tsepliaeva, Moscow (7 095) 755 5489