Russian Fixed Income Daily
- US Treasuries - the main threat
- OFZ 25059 auction today
- SibTel-4 looks attractive at current levels...

FX and money market

On Tuesday, the situation in the money market remained stable with overnight interest rates staying below 1%. Today, mineral resources and excise taxes are to be paid. The market is full of roubles, and despite the scheduled tax payments and end of month effect we believe that rouble liquidity will remain solid. In the FX market, following fluctuations in the euro, the rouble traded yesterday in the range of RBL/USD27.97-28.01. Although export proceeds came on to the market, this did not have any strong influence on the rouble exchange rate. Today we expect to see the rouble around RBL/USD27.96-28.02.

Tax payments schedule:

25 January – mineral resources, excise taxes – RBL80bn;

30 January – profit tax – RBL110bn.

Olga Golub, Moscow (7 495) 755 5176

Rouble bond market

Tuesday demonstrated rather limited activity on the domestic bond market with prices of long bonds again showing no clear tendency. Many market participants were definitely trying to fix profit in liquid issues, but the government sector on average remained stationary, which gave support to municipal and corporate bonds. As a result, if there were downward price retreats, they were modest.

New OFZ issue to be placed today

Issue parameters. Size: RBL9bn, term to bullet maturity: five years, quarterly coupons, approximate duration: four years.

Simply looking at the OFZ curve we can deduce that in the current market conditions the new bond should be placed with a YTM close to 6.3%.

We recommend market participants to approach OFZ 25059 with caution, as the history of placements of previous bonds from this series, namely OFZ 25058 and 25057, suggests that after the placement of the first tranche of a paper, its price tends to fall relative to the auction results. This is most probably due to low trading liquidity as the size of the bond available for trading at that point is so far relatively small. Later, when further tranches of the bond are placed, the position of the paper on the curve restores to a fair level.

Overall, we advise traders to participate in the auction, but recommend demanding a significant premium for the future low liquidity of OFZ 25059. We consider 8-10bp over the fair value to be an adequate premium, so we advise placing orders for OFZ 25059 at 6.38% and above.

Secondary trading in the corporate sector

Price changes of high-grade corporate bonds: Gazprom-4 -49bp, RZhD-3 -1bp, FSK UES-2 -1bp. Second-tier issues: UrSI-5 +47bp, CenTel-4 -8bp.

While our general recommendation for long rouble bonds is a Sell, certain shorter bonds appear quite attractive as additions to passively managed portfolios.

SibTel-4 yesterday traded at a YTM of 7.75% for 17 months, which in our opinion is very attractive, especially considering yesterday’s notable upward move in UrSI bonds. UrSI-4 was yesterday trading at 7.7% for 21 months, i.e. being longer it was below SibTel-4 in yield. As SibirTelecom and UralSvyazInfrom are almost indistinguishable from a credit standpoint, we believe SibTel-4 should be bought as long as it is above the 7.5% level.

Secondly, we continue to suggest looking at TMK-2, a bond of Russia’s leading tube producer which is currently trading at a YTP of 8% for 14 months.

Thirdly, we recommend paying attention to HCFB-3, which was on Monday seen at 8.6% for 14 months. The bank is rated B-/Ba3 by S&P/Moody’s and there’s a strong probability that HCFB’s financials for the whole of 2005 will be stronger than those for 1H2005 and 3Q2005.

For those with somewhat higher risk appetites, we can recommend buying KrVostok – a bond of the leading beer producer located in the Volzhsky region, which we have mentioned many times in our 2005 updates. Currently, the bond is trading close to 9% for 13 months. We base our recommendation on the generally positive situation in the beer sector in Russia and also on the projection that strong local producers are very likely to become targets for acquisitions of larger companies in the process of consolidation that has been taking place in the beer sector.

Short-term market view

Currently, the largest threat to the domestic market is posed by the unstable US Treasuries, which appear undecided on which direction to head. In addition, the amount of new scheduled primary placements is growing, so the anticipation of new primary supply should limit investors’ interest in buying rouble bonds on the secondary market. On the other hand, the situation on the money market remains unexpectedly positive, which is providing some downside protection. For these reasons, we are expecting more sideways action in the nearest future and our recommendation for long rouble bonds remains a Sell in order to reduce the average portfolio duration, which had been previously increased to capture the returns of the New Year rally.

Dmitry Dudkin, Moscow (7 495) 755 5480

Industrial production – poor performance

In2005, industrial production rose by 4.0% (YoY), which was below the GDP growth of 6.4%

Yesterday, the FSSS released its industrial production figures for December and 2005 as a whole, which were not high as expected and much below the potential growth in favourable oil price environment. The acceleration scenario which materialised in 4Q05 (in December 2005, industrial growth was a more impressive at 4.6%) was not sufficient to substantially improve annual figures. Raw material production was disappointing due to a decline in ferrous ore output (-2.6%) and very modest oil and natural gas production growth, which resulted in a cumulative increase in raw material production of only 1.7% (YoY) in 2005. This was not very a good result for 2005, even though the reasons for this slowdown are clear and can be mainly attributed to the drop in Yukos’ production, higher than average “oligarch” risk the oil sector in 1H05, and increased tax pressure on the oil sector.

Growth in manufacturing goods production was a more impressive at 6.1% (YoY) in 2005, supported by high investment and consumer demand.

Production and distribution of electricity, gas, and water demonstrated low growth of 1.5% (YoY) in 2005, so it was not surprising the most dynamic regions – Moscow, St Petersburg, Tyumen and Krasnoyarsk – where economic growth exceeds two-digit figures, faced an energy shortage in the recent very cold period.

In 2006-07, we expect some acceleration in industrial growth to 5.3% and 5.7% respectively. Political risks are gradually declining, which should result in further acceleration of growth as well as continued expansion of domestic demand. The base effect will also be supportive for growth figures in 1H06.

Investment implications: Poor industrial growth in 2005 was quite disappointing. The structural changes in economy lead to an increasing gap between industrial and GDP growth. We believe there will be acceleration in 2006-07. Usually in Russia, statistical data releases do not significantly impact markets, but the poor growth figures are likely to create additional stimuli for the Kremlin and the government to hurry up with the legal approval of the government’s investment programme for 2006 and the investment fund in particular.

Julia Tsepliaeva (7 495) 755 5489