Financial Fear Keeps Moscow Markets Closed
So last night was weird. On Sunday, the Russian Central Bank (RCB) announced a 3 hour delay in opening its currency market, shut its foreign exchange repo market and put restrictions on foreign sellers. The repo market is where large financial institutions borrow cash from money market funds by agreeing to sell bonds for a day and a small profit. It allows institutional traders to raise cash to trade and allows money market funds to earn a little return for their cash. The market is also where central banks often act to manipulate interest rates, since that’s where the major market participants decide on what’s a fair rate of interest for an overnight loan.
So why did the RCB delay? Fear. For much of the past year, it took around 75 rubles to buy one dollar. At the end of last week it took 84 rubles. In offshore trading Monday in Asia the ruble briefly hit 118 before falling back. That unofficial quote signaled a possible 50% decline, just a few hours before their market was scheduled to open. That apparently sparked fear in Moscow. What’s a fair rate of interest for an overnight loan if the market expects your currency to collapse? As I type, the ruble is hovering around 109, even with the RCB defending it.
Some idiots are saying that Putin must have had plans to defend the ruble, but the announcements were contradictory, late and inconsistent. First only the currency market would be delayed until 10am, then the stock market would open at 1pm, then the RCB would announce a decision by 1pm about whether the stock market would open at 3pm. When you’re missing self-imposed deadlines to communicate why you’re missing deadlines, that points to chaos behind the scenes. In earlier interviews over the weekend, the RCB was talking about normal actions to keep the economy growing, such as easing loan terms and buying gold to put more rubles into circulation. But that would be a bad strategy to defend the value of the ruble.
So the RCB delayed, changed their plans on the fly, and never opened the Moscow Stock Exchange. When the foreign exchange market finally opened, the RCB raised the interest rate from 9.5% to 20% to defend the ruble. Last week the Russian stock market dropped around 25%. Since the MOEX index is ruble-denominated, from our perspective the market dropped 37% last week. If the market were open, it would be down well over 50% in dollar terms.
One of the largest stocks in the MOEX index is the sanction-targeted, state-owned Sberbank, the largest bank in Russia. We have toothpaste and paint companies worth more than them, but they are a big deal in Russia. They also have significant operations in Europe, or had. The ECB says that Sberbank Europe is “likely to be unable to pay its debts or other liabilities”, and Czech regulators prevented their branches from opening today. Ironically, delaying the Moscow stock market open may make it easier to get the sanctions into place.
The large fossil fuel giant Gazprom is down 70% year to date, mostly last week. BP ending its partnership with Rosneft and selling its 20% stake probably didn’t help. Neither does Norway’s decision to divest from Russia in its $1.3 trillion oil fund (the world’s largest sovereign wealth fund). Oil prices are rising sharply, but investors don’t see Russia benefiting. If anything, energy traders are expecting an energy crisis caused by taking Russian supply off the market through disruptions and further sanctions. Similarly, grain prices are rising globally, as Ukraine’s breadbasket is under siege, and Russia’s exports are also impacted.
Over the weekend, S&P Global Ratings cut the grade on Russia’s debt from BBB- to BB+ with a negative outlook on 2/27. That may not sound dramatic, but it is the line between “investment grade” and “junk”. It took Russia over 10 years to improve to investment grade, but it only took a few days to turn all their debt back into junk. Further debt rating cuts will follow.
The Sanctions Are Targeted and Tough
Joe Biden directed a series of “full blocking sanctions” against specific Russian elite family members, Kremlin’s bank VTB, three other banks and all their subsidiaries. These are punitive sanctions that include both ceasing of financial activity and also seizure of any assets “touching” the US financial system. The hunting and seizing of assets is being coordinated with allies.
The overseas assets of Russia’s central bank will also be effectively frozen by the West, severely limiting their ability to defend their currency the ruble. The RCB owns $630 billion in assets, including foreign currencies, gold and other securities held in Russia, at multilateral financial organizations and at banks around the world. But the RCB won’t be able to touch their assets in western economies, and they will find it increasingly difficult to be able to sell their Russian assets abroad. The world is surprisingly unified on Ukraine, with overnight reports in India and China expressing deep concern about their foreign students trying to flee Ukraine. Russians have already been lining up at their ATM’s in case those are restricted later, and experts expect bank runs to get worse.
The Treasury Department is also implementing sanctions on “systemically important” Russian financial institutions, including cutting off Russia’s ability to raise funds by issuing new debt or equity in US markets and directing all US financial institutions to cease doing any business with these firms or their clients. The list includes Sberbank, privately owned Alfa-Bank, the largest non-state bank Credit of Moscow, Gazprom, Transneft, Rostelecom, Rushydro, shipping, railroads and the world’s largest diamond miner, which together account for most of Russia’s significant financial institutions. When one of the targeted Russian financial institutions tries to act on behalf of its clients, they “will be disrupted and rejected once the payment hits a U.S. financial institution” per the US Treasury.
Japan, Taiwan, Canada, Australia, New Zealand and others are joining the US, UK & EU (even the Swiss) in imposing broad sanctions. Russia faces widespread international trade and technology restrictions, military barriers and sanctions against Belarus. These rules are absolutely enforced, with the suspension of Russia from SWIFT cutting off international transaction messaging. 30 day notices have been given, and the scramble is on to end deals and close accounts before all doors are locked automatically.
These sanctions are targeted, tough and just getting started. US financial institutions are expected to act more quickly than required to cut off Russia. UPS & FedEx no longer deliver to Russia. YouTube is blocking Russian media. More than ½ of Russian commercial planes are leased, most payments are due in dollars, international airspace is being closed, and airplane repossessions are already starting. And the Biden Administration is very much on top of coordinating this effective sanctions regime.
Russia claims it can support its economy independently, but they are more dependent on Europe than vice-versa. Energy sanctions are expected soon, and financial sanctions will disrupt payments to Russia. European markets opened lower Monday, due to the cascading impact of sanctions, higher fuel prices and other disruptions. Yet however much pain we feel in our markets and supply chains, Russia will feel it a hundredfold. Nomura figures 80% of Russian foreign exchange transactions are conducted in US dollars, so a collapse in the ruble will hurt their economy quickly.
Even Russian oligarch Oleg Deripaska is calling for peace. That’s got to sting Putin.