March 13, 2013
While the sight of Russian flags, pro-Russian troops, and Russian navy ships in Crimea is now a day-to-day thing; this morning brings a new normal for the eastern Ukraine region – long lines at bank ATMs as the bank runs have begun. We noted last night the dreaded inversion of Ukraine’s yield curve, the greater-than-50% yields on 3-month Ukraine government debt, and the pressures on local bank debt maturities as the ability to garner dollars cost-effectively was becoming a problem but on the heels of concerns by the head of the central bank that moving cash in Crimea was difficult, ATM withdrawal limits have been cut. People in long ATM lines are reported to be concerned because “banks are closing” but it is Deutsche Bank’s comments this morning that raised many an eyebrow as they suggest that Ukraine’s debt is pricing in a “burden-sharing” haircut for bondholders (which as we have seen in the past – in Cyprus – can quickly ripple up the capital structure and become a depositor haircut).
Quiet calm bank runs are beginning in Ukraine…
As Deutsche Bank raises the prospect of bail-ins and Private-Sector-Involvement (PSI) in bailing-in the banks and government…
…given the recent experience of IMF programs it is natural to ask whether some form of ‘private sector involvement’ (PSI) will be proposed as part of any package of support.
The IMF itself recently published a consultation paper arguing that private sector debt restructurings had “often been too little, too late” and that the fund should look at ways to avoid its “resources eing used simply to bail out private creditors”. The ongoing consultation process which this paper nitiated is one reason why concerns over IMF-sponsored restructuring are more prevalent for Ukraine now than they have been in similar situations in the past. However, we think it unlikely that there will be ignificant change in the Fund’s approach towards Ukraine, given that the consultation is still ngoing, views are divided and its outcome remains uncertain. Nevertheless, that does not mean that some form of PSI will not be considered, condoned, encouraged or even mandated and so it is useful to onsider the pros and cons from the perspective of the Ukraine (and its potential official sector financiers) and the implications for private sector creditors.
[Of course PSI can take on many forms from debt-extensions to bondholder haircuts to further up the capital structure depositor haircuts]
…current market prices are relatively consistent with such a scenario of PSI-lite. Indeed, the current relative pricing of Ukrainian bonds are very unusual: the pricing of short-dated bonds are distressed, implying a relatively high probability that they won’t redeem at par, but on the other hand the narrow range of prices across the curve suggests that the market assumes a high recovery in the event of a default/restructuring.
Such pricing would be fair, considering a baseline scenario involving an IMF program and an orderly adjustment. However, it leaves little compensation for a more disorderly scenario. Tensions with Russia show no sign of abating and could escalate further. Also there is no guarantee that the new government has a strong enough popular mandate to carry through the necessary reforms. PM Yatseniuk has emphasized that the road ahead for Ukraine will not be easy, but only time will tell how united the country will be in following the path he intends to take.
We suspect a brand new populist PM is unlikely to remain in power long if depositor haircuts were engaged – and would certainly not imbibe the eastern Ukraine region with the country’s new leader.
Gold Goliath is not your typical gold dealer.