Russian Default Risk Soars: LTCM Repeat Play

[Joanne98]

The Telegraph is reporting Russian default risk tops Iceland as crisis deepens.


Russia's financial crisis is escalating with lightning speed as foreigners pull funds from the country and the debt markets start to price a serious risk of sovereign default.

The cost of insuring Russian bonds against bankruptcy rocketed to extreme levels yesterday. Spreads on credit default swaps (CDS) reached 1,123, higher than Iceland's debt before it sought a rescue from the International Monetary Fund.

Moves by Hungary, Ukraine and Belarus to seek emergency loans from the IMF have now set off a dangerous chain reaction across Eastern Europe. Romania had to raise overnight interest rates to 900pc on Wednesday to stem capital flight, recalling the wild episodes of Europe's ERM crisis in 1992. The CDS spreads on Ukraine's debt have topped 2,800, signalling total revulsion by investors.

Rating agency Standard & Poor's issued a downgrade alert on Russian bonds yesterday, warning that a series of state rescue packages worth $200bn (£124bn) could start to erode the credit-worthiness of the state.

Russian companies must roll over $47bn of foreign loans over the next two months, and a further $150bn or so next year, a task that has become close to impossible as investors flee Eastern Europe.

"The surge in Russian CDS spreads is paralysing the whole system. The government can offer very little help to the banks at this point because its own sovereign debt is in question," he said.

"This crisis is starting to look like the Black Wednesady in 1992. Unless we see an extension of central bank swaps in dollars and euros to Eastern Europe within days to stop this uncontrolled process of deleveraging, this could get out of control and do serious damage to Western Europe. We could see the euro fall to parity against the dollar by next year," he said.
Genius Fails Again

It is fitting that Russia is back in the news because it was the demise of Long Term Capital Management that kicked off a string of moral hazard interventions by the Fed that continues to this day.

Please see Genius Fails Again for a recap of LTCM and the 1997 Russian Bond market collapse that then threatened the financial system. The derivatives mess today is thousands of times greater.

Let's explore a chart of the Russian Stock Market to see if we can find a pattern similar to the bond collapse in 1997.

LETRX Russia Fund

http://globaleconomicanalysis.blogspot.com/2008/10/russian-default-risk-soars-ltcm-repeat.html