Fixed Income Quarterly. July 2021 - Rising Rates on the Horizon

The second quarter brought calmer waters for Russia and the wider FSU fixed-income space compared with the beginning of the year. In particular, geopolitical uncertainty decreased as the latest US sanctions on primary OFZ issuance proved milder than feared, while US-Russia relations seem to have been put on a more constructive footing. Meanwhile, the CBR launched a series of "proactive" hikes, which has capped the long-term inflation risk premium in OFZs. Globally, the Fed has signaled that it will only start "thinking about thinking about" tapering. Still, the backdrop for 3Q21 does not look benign for FSU fixed income, as the talk about tighter monetary policies could start to become a reality.> Ruble rates: OFZ curve could invert soon. Given the prospect of a 100 bp hike by the CBR at the July 23 meeting having become more tangible, together with the CBR talking about a potential downward revision of its inflation target, further bear-flattening of the OFZ curve should continue, in our view, which could lead to the curve inverting.> Euro rates: Overweight long Russian sovereigns. We find the Russia 32 E and 36 E attractive for those seeking to diversify their FX risk away from dollars, as the issues have been underperforming EM peers recently and the curve looks steep in general.> Eurotorg: Political turbulence in Belarus creates opportunity for cheap exposure to fundamentally solid business. Eurotorg proved its operating and financial resilience in 2020, and we believe it will continue to perform despite intensifying competition in the local market. > STLC: Liquidity solid, but capital constraints remain. State Transport Leasing Company, which is exposed to segments of the economy most affected by the pandemic, has benefitted from good capital market access and a recent rebound in the local transportation industry. That said, tight capital position is limiting a further recovery in the bonds, in our view. > Sovcomflot: Strong business profile, interesting Russian corporate exposure. The company owns and operates one of the largest and most modern tanker fleets globally and has longstanding relations with O&G majors. After the IPO in late 2020, after which the government retains control of the company, Sovcomflot has reduced leverage and was upgraded to the IG category.> Uzbekistan: Reforms to support fundamentals. The sovereign bonds benefit from the country's diversified economy, moderate public debt-to-GDP ratio and high reserves, as well as a stable political backdrop - a unique combination for the FSU. We think that the upcoming new bond placement just announced represents good opportunity to get exposure.