Infant Moscow muni bond market resembles U.S.
For those of us in muniland used to massively oversubscribed municipal bond offerings, this report from the Moscow Times came as a shock:
In its first municipal bond issue in recent years, Moscow managed to sell only 35 percent of the securities on offer, raising 6.85 billion rubles ($212 million).
The city floated three-year bonds worth 20 billion rubles on Wednesday with a yield of 7.12 percent, said Alexander Kovalenko, deputy head of the city’s finance department.
It’s hard to imagine Citi or Merrill Lynch doing a $1 billion bond underwriting for Chicago if they were only able to sell $350 million of the deal. Usually if a U.S. underwriter cannot find enough buyers, a deal is postponed or the yield is pushed up until there is enough interest to get the deal completed. Not so in Russia.
This history of the Russian municipal bond market illuminates how an infant bond market works. For example, in the U.S. market we assume that issuers will use the proceeds of the offering exactly as described in the offering statement. But Russian sub-federal muni bond proceeds might be used for a variety of purposes:
One of the first dilemmas faced by regional and local authorities was a choice between handing out salaries to state employees and paying off debts in the context of acute revenue shortage. It was necessary to decide whether it was more important to ease social tensions or keep a spotless credit history. In the years of the lowest revenue income levels the bond issuing regional authorities demonstrated the art of diplomacy: they publicly proclaimed the importance of debt settlement, while targeting alleviation of social strain.
Russia’s muniland has also had its share of professional misconduct:
Many problems occurred through the fault of professional market participants, especially at the initial stage of the market development. Some of them simply forced regional and municipal authorities to issue loan bonds and had no concern whatsoever for the latter’s bond servicing and redemption potential. Once the bonds were issued and commissions received they left the issuers to deal with the consequences.
This is perhaps a lesson for Detroit and other insolvent municipal issuers:
Long after the emergence of the Russian sub-federal bonds market, the notion of insolvency was practically inapplicable to public authorities. The prevailing opinion was that a public authority could not fail to repay its debt, and that it was a reliable borrower ‘by default.’ When the market was confronted with a series of credit defaults, it turned out that not only the professional market participants but also the issuers were baffled by such turn of events. No one knew what behaviour was best in that situation. Besides, there was no business ethics to speak of. In some cases, public authorities opened new accounts almost everyday and used them for budgetary receipts in order to avoid the execution of enforcement orders for the recovery of their bond arrears.
And the role of raters in the budding Russian municipal market:
[M]arket participants were almost grateful to major global rating agencies when the latter offered their rating services. To many market participants this offer seemed to be the only way out of the existing deadlock as they thought that rating companies, being totally independent from both conflict parties, would be able to carry out professional evaluation of the risks.
Rating agencies initiated numerous conferences and publications in specialized business and financial press; they frequently organized meetings with issuers and professional market participants. One of the popular slogans in those times was: ‘A low rating is better than no rating.’ Finally, as it often was the case in the 1990s, getting a rating became really fashionable. Today this fashion has died out and ratings present interest only to the regions that intend to carry out long-term and large-scale borrowing policies.
There seem to be many ways the Russian market mirrors the U.S. market. Every offering brought to market is not a bust. From the Moscow Times again:
The biggest buyers are usually banks, which tend to use them in repurchase agreements. In June, investors bought 19 billion of the 20 billion rubles worth of municipal bonds on offer, making it far more successful than Wednesday’s effort.
Yet the city was positive about the sale. It was by no means the worst performing floatation in Moscow’s history, said Denis Mikhailov, head of the city’s financial agency. The city does not have a yawning deficit, he added, and the remaining bonds will continue to be sold on the market at the auction price.
Russia’s muni market seems to be experiencing many of the same growing pains that the U.S. once did.