Economy 21 April 2022, 8:50am

Russia reaches another milestone on path to default

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The Credit Derivatives Determinations Committee (CDDC) stated on Wednesday that Russia's payment of roubles on two dollar bonds was a "Potential Failure-to-Pay" event for credit default swaps. This appears to be the first official stance on Russia potentially defaulting due to its failure to make a payment in U.S. dollars.

The CDDC regulates the market for Credit Default Swaps (CDS) which are a way of insuring the buyer against exposure to specific risks, in this case Russia defaulting on its sovereign debt.

The CDDC is consulted when a country is close to default. The process starts with a market participant, usually an investor who has bought such protection, asking the CDDC to decide whether a potential failure to pay event has happened.

The CDDC's opinion is used to pay CDS to those who have insured themselves against default. Now, following the CDDC's opinion, these payments can start for Russian CDS.

The group, which includes Barclays, Goldman Sachs, and JP Morgan, said the potential failure happened on 4 April when Russia made a payment on two sovereign bond in roubles rather than the dollars it was mandated to pay under the terms of the instruments.

Russia’s Ministry of Finance has argued that it had fulfilled its debt obligations, blaming United States and and others for blocking payments to creditors, and threatened legal action.

The nation could still avert a default if it pays bondholders the Usd 649 million in dollars before a 30-day grace period ends on 4 May.

Earlier, the U.S. Treasury Department had already instructed JP Morgan not to participate in interest payments on Russian FX bonds, and Citigroup is doing the same. Thus, Russia is forced to pay in roubles, as dollar-based transactions are not accepted.

Bloomberg reminded that the official sovereign default declaration would traditionally be made by ratings firms, but all have withdrawn coverage of Russia to comply with a European Union ban.

The news agency also pointed out that S&P Global Ratings had cut Russia to “selective default” before its exit and it does not find it likely that a payment in USD will be made before the grace period ends. Moody’s Investors Service then said Russia’s rouble payments on the dollar bonds would be “considered a default” if the situation is not remedied within the grace period. It added that the comments did not constitute a credit rating shift.

Investment bank JP Morgan estimated last week that there were currently $3.43 billion of net notional Russia CDS to be settled, including $2.48 billion from single name and the remainder from CDS indexes.

A law professor at the University of Virginia told Bloomberg that there is a clause in Russian foreign currency bonds that allows the country to pay in roubles as long as the investor can buy enough dollars to cover the amount. In other words, it seems that the debate will continue for some time as to whether or not we can talk about a sovereign default.

Russia has not defaulted on its external debt since it reneged on Tsarist debt in the wake of the 1917 Bolshevik revolution, according to Reuters.

This week alone, three of Russia’s largest banks missed interest payments due on their bonds. VTB Bank, Alfa Bank and Russian Agricultural Bank were all slated to pay coupons on their subordinated notes over the past few days, yet no transfers reached foreign investors, according to people familiar with the matter, who spoke to Bloomberg on the condition of anonymity.