Russian Daily Monitor

Moody\'s: Government inefficiency holding down rating

Moody\'s would have already lifted its credit rating for Russia if it had
been relying solely on quantitative measures, the ratings agency announced
Tuesday, pointing to government inefficiency as one the obstacles for
further upgrades. But with the next election cycle approaching in
2007-2008, the likelihood structural reforms will be sacrificed for
political stability is increasing.
In early September Moody\'s put Russia\'s rating on upward revision after
upgrading the rating of several state monopolies above the sovereign level
- although it withdrew the increases before long. Tuesday\'s statement to
some extent explained why Moody\'s - previously the more optimistic about
Russia - let Fitch be the first to lift the country\'s rating to the next
investment grade.
Moody\'s statement regarding structural and political risks, which look
unlikely to disappear in the mid-term, contrasts with current market
expectations of Moody\'s move.
The market expected upgrades from Moody\'s in the coming months, to lift
the sovereign rating likely to Baa1 from its current Baa3.
At present the government is trying to show its adherence to reforms. On
Wednesday the Minister of Economic Development and Trade announced that
the government is going to borrow about USD 100 mn from World Bank for
special economic zones project and judicial reform.
A decision by Moody\'s on Russia\'s credit rating is expected by the end of
November.

GDP growth rate climbs

According to preliminary estimates from the Ministry of Economic
Development and Trade, GDP growth climbed to 5.9% over the first three
quarters, compared to 5.7% for 1H2005 and 5.2% in 1Q2005. The accelerating
economic activity comes on the back of solid investment activity and
strong consumer demand buoyed by substantial government hikes in wages and
pensions this year. GDP growth is also backed by commodity prices, which
have been persistently rising over the course of the year and have boosted
net export volumes to record highs.

Money market

On Wednesday the dollar made another futile attempt to break its
resistance level against the euro of USD 1.19, before backtracking to USD
1.198 by the end of trade. Local dynamics again proved a clear reflection
of euro-dollar dynamics, with the dollar\'s value reaching RUB 28.6 this
morning on the Russian FX market. In the short-term we do not rule out a
technical dollar correction on the downside with local dollar bids likely
descending to RUB 28.4-28.5. U.S. data to watch on Thursday includes the
index of Leading Indicators and the Philadelphia Fed index.

Eurobonds

Judging from comments by the Federal Reserve officials on Wednesday,
inflation remains the priority for the U.S. monetary authorities, while
concerns of a serious economic slowdown in the aftermath of recent
hurricanes appeared to ease: the Fed\'s Beige Book indicating firm economic
expansion up to the last FOMC meeting on September 20. Thus, despite more
evidence of a rising target rate from the Fed, long-term bond yields
should remain pressed down by contained expectations of long-term
inflation. At the same time the downside in the short-end of the yield
curve is building on the back of recent indications of rising inflationary
pressures. The trend fully applies to Russian Eurobonds as emerging market
papers remain under the strong influence of benchmark movements.
Meanwhile, we see the short-term upside to Russian papers from rising risk
of new energy price spike in light of Hurricane Wilma.
On Wednesday the sovereign papers fell with yield of the most liquid
Russia\'30 expanding 5 bps to hit 5.69%, while the yield of 10-year UST
lost 4 bps to reach 4.44%. As a result the sovereign credit spread
expanded to 119 bps, 4 bps on the day.

Equity market

The Russian equity market should find support from positive GEM dynamics
and looks set for upward movement after an aggressive price slump on
Wednesday. The Russian equities suffered from the panic in world equity
markets on Tuesday and the benchmark RTS index lost 3.93% Wednesday, with
all Russian heavyweights dropping 4-6%.
There is still no support from the oil price, which continues stagnation
on data of swelling U.S. crude and gasoline inventories, and hopes that
Hurricane Wilma will pass over oil facilities on the Gulf Coast of the
United States. As a result, the indicative Brent price declined 0.6% to
USD 58.27/bbl. Meanwhile, the Russian equity market is losing the support
of domestic liquidity and becoming more volatile - and a little too prone
to change in the sentiment of global investors. That said, our mid-term
outlook remains defensive.