Fixed Income Quarterly. April 2021 - Surviving the Perfect Storm

The beginning of the year has been challenging for the ruble rates space. The global reflation trade, combined with concerns about heavy planned issuance, hawkish CBR rhetoric and a pickup in sanctions talk - all amid elevated volatility in the broader EM local debt space - have pushed yields back to the highs of April 2020. In the hard-currency segment, Russia's sovereign Eurobonds have lagged EM peers only marginally, while Belarus has been the main underperformer.> Ruble bonds: Seeking trigger for a turnaround. Ruble curves are already pricing in around 200 bps of rate hikes over the next 12 months, which we think is excessive, assuming that the geopolitical situation eases. We think the CBR is unlikely to raise rates by more than 100 bps next year, as monthly inflation appears set to return toward levels consistent with the target in 2H21 as temporary inflationary factors gradually subside. Meanwhile, the pressure on OFZs from primary market supply should ease amid the Finance Ministry's intention to reduce its borrowing program and higher redemptions, while international positioning has markedly lightened up. We consider 10y OFZs to be the most compelling investment, but the road to fundamentally justified levels could prove bumpy due to persistent geopolitical noise and stubbornly high weekly inflation prints. > Belarus. Last year, the Belarusian economy was hit by both the pandemic and oil supply disruptions, while the country's usually predictable and staid political life gave way to a period of heightened uncertainty. We expect the recovery to continue this year, as the economy will be supported by stronger external demand. Belarus seems to have sufficient cash, thanks to the credit lines with Russia reached in December. The spread between Belarus and Russia is elevated in historical terms, as it is double the long-term mean. Belarusian sovereigns also lagged B-rated peers last quarter. The Belarusian curve looks flat, and we therefore prefer short-term papers. The Belarus 23 (Z-spread 550 bps) looks attractive, in our view. In the event of fresh waves of volatility prompted by domestic politics, we believe this segment should be less vulnerable.> Domodedovo. Domodedovo has shown higher resilience to the pandemic shock than its peers. The company conducted a successful liability management exercise that eased its short-term refinancing risks. Due to the lack of high-yielding bonds in the Russian corporate space, we see some further room for spread contraction for Domodedovo's Eurobonds once the recovery in the aviation industry gains momentum.