There has been some heavy trading in the Russian equity and bond markets over the past several days. Bond traders reported that prices for the Russian rouble sovereign debt dropped on higher than average volumes, especially on mid and long term issues traditionally held by foreigners (see also here
Performance of Russian sovereign rouble bonds and Brent oil index
Source: www.moex.ru, www.quandl.com
On July 25 USDRUB hovered around 60 despite the Brent oil price jumping by over 3% on the day to above $50 per barrel. The rouble also failed to find support from presumably higher demand for the Russian currency for end-of-month tax payments.
The Russia sanctions bill (passed by the House of Representatives on July 25 by 419 votes for and 3 votes against) has been the main driver for the sell-off. The legislation codifies and toughens existing sanctions against Russia, imposes some new ones and asks the US administration to consider an impact of even more severe measures against the Russian government.
That it is not a surprise in itself, but the bill has not been expected to make such a swift and successful headway in the Congress, or to find - admittedly qualified - support from the White House.
The initial draft, which was approved by the Senate almost unanimously in early June, has been expediently re-worked to meet lobbying demands of the American oil and gas industry and the European concerns related to sanctions on the Russian export infrastructure.
Some of the rougher edges might have been smoothed, but the White House administration has spectacularly failed to negotiate any major concessions or get the bill slowed down in the Congress to give President Trump some room for manoeuvring.
Mr. Trump himself might have made a valuable contribution to convincing the legislators to vote for the bill. On July 25, hours before the sanctions bill was expected to hit the floor in the House, the US President shared – on twitter
- his frustrations over the “Ukrainian effort to sabotage Trump campaign – quietly working to boost Clinton..”.
No wonder that the US Congress seems very keen to impose some discipline on and control over the Trump foreign policy – and fast, at least when it comes to sanctions.
As it stands now, the bill codifies the existing sanctions against Russia, which had been imposed by the Obama administration in response to the annexation of the Crimea and the shooting down of the passenger plain over the break-away Donbass region.
The bill restricts the US President from lifting or amending the sanctions. It could only be done if the US President provides sufficient evidence for his actions and with the joint agreement of the Senate and the House of Representatives.
The existing sanctions on debt financing have been tightened (new debt could be issued for not more than 30 days for the sanctioned Russian oil and gas companies, for example). US energy companies are now prohibited from participating in deep water/shale/Arctic projects around the globe where Russian sanctioned entities have more than 33% stake or ownership, according to the Wall Street Journal.
Another turn of the screw is that sanctions could now be imposed on companies involved in the Russian oil and gas export infrastructure in general, and, very specifically, in the Nord Stream 2 project.
In the initial version of the bill voted through in mid-June, the sanctions would have been imposed on entities that invest or supply goods, services, information and support “...that would directly and significantly facilitate the maintenance or expansion of the construction, modernisation or repair of the energy pipelines of the Russian Federation”.
Putin and the US disagree on how to deal with the Assad regime in Syria, pictured above is an-anti Assad and ant-Putin protest by Syrian refugees in Oslo, May 2016. Photo: Shutterstock
It is a very broad definition and the likes of Shell, BP and Eni must be very worried about a number of flagship (not to say massively expensive) projects that might be subject to new restrictions.
The latest version of the bill softens the blow and gives the US President discretion in imposing the sanctions in coordination with the US allies, according to WSJ. This should placate the EU Commission which demanded reassurances from the US that the new sanctions would not hurt the EU economic interests.
What should be even more worrying for investors in Russia is what seems to be an implicit link between the Russian behaviour in Syria (“Sanctions in respect to the transfer of arms and related materials to Syria”) and a request to the US administration to “...report on effects of expanding sanctions to include sovereign debt and derivative products”.
The main investment risk is not that the Putin administration would try to break those sanctions. It is the hazard of Moscow being tied up to the Assad regime, who might have their own ideas about their behaviour and its potential impact on Russia. It is an extra layer of uncertainty and risk which is yet to be fully priced into the Russian assets, especially by the institutional investors.
It could be argued that the potential absolute impact of imposing sanctions on the Russian sovereign debt market, for example, might be relatively small. The nominal value of outstanding Russian rouble debt is RUB1.89 trn/$31 bn, with 30.7% held by non-Russian entities as of June 1, 2017).
The overall negative impact on the markets, though, is hard to over-estimate. If a mishap in Syria were to trigger prohibitive financial sanctions against Russia, it would simply mean that there would be very few buyers around for any Russian assets, for a while.