Fixed Income - Russia and Belarus Agree on Economic Integration; We Highlight Our Trade Ideas

After almost three hours of discussions yesterday, the presidents of Russia and Belarus held a one-hour press conference to announce the results of the integration agreement reached between the two countries. The presidents finally agreed on 28 "integration roadmaps." Russian Prime Minister Mikhail Mishustin and his Belarusian counterpart Roman Golovchenko will sign everything today during a meeting of the Council of Ministers of the Union State in Minsk, and the two presidents will sign later this year at a meeting of the Supreme State Council of the Union State.> Economic integration will touch fiscal, social, monetary policies, as well as energy market. The integration process will concern only economic issues; there has been no discussion of political integration at this stage. The integration roadmaps should synchronize tax and customs systems and create a unified monetary policy framework, social security system and energy market. There should also be a uniform system of indirect taxes. The unified financial system will entail the unification of financial regulation, monetary policy and FX regulation, and payment systems. However, it stops short of a single currency. The agreement on the single energy market assumes that gas prices in 2022 will be the same as this year. In 2023, a single gas market will be created. There will also be a single market for oil, oil products and electricity. On a separate note, the presidents mentioned that there will be a common defense space, particularly along the outer border of the Union State.> We see the adoption of the integration maps as a positive factor for the Belarusian economy. First of all, it will unlock additional funding from Russia. Recently, Russian Finance Minister Anton Siluanov said Russia could provide additional support to Belarus (potentially $0.6 bln this year, according to President Putin). Belarus has also been in discussions to borrow up to $3 bln from Russia and the EFSD. Secondly, the creation of a single energy market means that Belarus will receive oil and gas at Russian domestic prices and Belarusian refineries could receive some compensation for the losses sustained from the tax maneuver in Russia.> The news strengthens our positive outlook on Belarus's sovereign debt. We retain the trade idea that we opened on June 25 to buy the Belarus 23. The idea has fared well so far, and the Z-spread has almost reached our target level of 500 bps (from 719 bps when we opened the recommendation - see our note). However, we see further scope for narrowing, as we think the risks for Belarus's shorter-dated bonds will decrease significantly as the probability of Belarus receiving a new loan is high, judging by official comments. The 2026-31 segment of the Belarusian sovereign Eurobond curve looks excessively flat to us, so given that investors are likely to price in the country's better liquidity position, we would expect the spread between the Belarus 26 and Belarus 27 to tighten close to the levels seen in the wake of a similar positive trigger last December, when Russia provided Belarus with a $1.5 bln loan. This is why we prefer the Belarus 26 and 27 and expect spreads to compress to 500 bps, from the current 660 bps and 680 bps, respectively.> What to do next. Now that the two sides have reached agreement on economic integration and given the high probability of financial support, we see progress toward a new constitution as one of the key stories to follow in Belarus. The timing is an important factor here, as slow progress could be seen as an attempt to stall. Lukashenko has promised to introduce constitutional amendments by the end of this year and follow this up with an early presidential election. Local media have reported that the referendum could be incorporated into local elections planned for January 2022. Lukashenko said last month that the referendum should be open and fair and that the new draft constitution would be made public for nationwide consultation. He also said he could step down as Belarusian president "very soon."