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Moscow’s muscle

Moscow City continues to dominate Russia’s regional bond market. With its infrastructure in need of rebuilding, the issue pipeline is looking promising. Ben Aris reports.
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Hanging on the wall of the Moscow City Debt Committee offices is the bond certificate from the city’s first international offering. In 1908 the city fathers raised Ł1889.56 in London with a 5% note to pay for a new tram system, improvements to the city’s water supply and money to build 10 new schools. Almost a century later, at the end of January, the city government issued another bond – this time Russia’s biggest and longest regional note – for much the same purposes.

Moscow city bonds are by far the strongest and most liquid of Russia’s regional bonds and, with 50 issues under its belt since 1992, its fixed income paper has established such a strong reputation that its notes have become a benchmark for other regional issues.

City success story

The launch of Moscow city’s Rbs5bn ($170m) bond in January was a huge success. The seven-year bond was four times oversubscribed and had an average yield of 7.23% against analysts’ predictions of 8%-9% and significantly less than the 11% the city’s paper commanded at the end of last year.

The city (not to be confused with the Moscow Oblast region that surrounds it) will use the money to finance infrastructure regeneration: building roads, replacing the old kominalki (communal flats) and knocking down the Krushcheviki (prefabricated buildings that were hurriedly constructed in the Krushchev era to house the burgeoning population).

The 1998 financial crisis briefly interrupted the flow of bonds but the city returned to the market, cap in hand, in 2000 and concentrated on rebuilding its reputation. That effort was rewarded with an upgrade by ratings agency Standard & Poor’s at the start of February to BB+ – the same as Russia’s sovereign rating – with a “stable” outlook.

The size and maturity of the bonds has increased with each issue from the first Rbs20m bond with a three-month maturity in February 1997 to last month’s seven-year issue.

Change of fortunes

“Moscow was considered a distressed borrower at the end of the 1990s and we had substantial debt – the debt stock climbed from 15% of city revenues to nearly 90%,” says Sergei Pakhomov, the head of the city debt committee, which organises all the region’s issues. “But we managed to reduce it with buy-backs and managing our currency reserves. Issues resumed after we repaid our first Eurobond in 2000.”

In total, the city has issued five Eurobonds in various currencies, 41 rouble bonds and four “savings” bonds of Rbs1bn each, aimed at retail investors (although largely bought by banks).

Moscow is the hub of Russia’s political and financial life and most Russian companies have registered their headquarters there. As a result, it receives about 85% of the regional part of corporate taxes paid in Russia. It is also under tremendous pressure, with its population of 12 million, so it has leveraged its income to rebuild the crumbling infrastructure.

The ministry of finance has given permission to more than 30 regions to issue bonds but only a dozen have done so. Moscow alone accounts for more than half of the outstanding volume of regional bonds.

Having built up a lot of experience, the city organises much of its own issue and does not call in banks as underwriters. Instead, it relies on an informal “underwriters club” of bankers that has grown from four members in 2000 to 23 today.

“Each bank has to bid for its quota and agree a ceiling for bids. It is a competitive system and open auction where we don’t restrict demand by going through a few banks who then sell on to their key clients,” says Mr Pakhomov. “The competition brings the yield down – there can be an 80 basis point difference between the average yield and the ceiling set at the start.”

And, unlike most corporate issuers, the city of Moscow does not include put options as part of the bond conditions, but does insist on call options to keep the pressure on bankers.

More activity ahead

Yields are continuing to fall as the domestic bond market grows and Mr Pakhomov says that the city will continue to roll out Rbs4bn-Rbs5bn bonds as well as two more savings bonds. “We hope to issue on a regular basis – about one a month for a total of Rbs35bn in 2004 – the bulk of which will be bonds. But the competition from other bonds, such as Gazprom’s issue in February and Transneft’s planned Rbs12bn issue, mean competition is rising,” he says.

One of the handful of regions that is still allowed to issue eurobonds following the 1998 crisis, Moscow city also plans to return to the international capital markets later this year with a E400m bond to refinance an existing dollar bond that is about to mature.

“Eurobonds at current yields are very attractive, especially since the rouble is appreciating against the dollar. This kind of borrowing makes a lot of sense, but we are limited in the number of bonds we can issue by ministry of finance rules,” says Mr Pakhomov.

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Read more about:  Central & Eastern Europe , Russia