Fixed Income - Comment on Lukoil's New Eurobond Placement

Today, Russia's Lukoil (BBB/Baa2/BBB+) will place a 10y dollar Eurobond. If successful for the issuer, the placement may be followed by a number of good quality offerings from Russia.We think $1-2 bln will be offered - the company has a $1 bln Eurobond maturing in November that it may seek to prefund now, and also, in accordance with its new dividend policy, it should fund M&A deals with new debt, like the $1 bln of asset acquisitions in the Congo and UAE it closed in 3Q-4Q19.Earlier in April, Gazprom placed a 5y euro-denominated bond, having guided a wide IPT, which was then squeezed to just a 10-15 bp yield concession to the company's secondary curve. Considering the current oil market (Russian companies starting this week are expected to start physical oil production cuts), a similar dynamic with a relatively generous initial guidance might play out.Since the breakdown of the OPEC+ agreement in mid-March, EM oil producing sovereigns and their oil companies have placed more than $40 bln of Eurobonds. New issuance from Russia is limited by financial sanctions. At the moment, there is good appetite in the market for long- and super-long-dated offerings, so Lukoil's choice of a 10y tenor does not come as a surprise. After placement, the paper will be the longest of the company's Eurobonds (its outstanding curve ends in 2026) and probably the most liquid. The natural peer for the issue is Gazprom. In the 6-10y segment, the Gazprom curve has a circa 20 bp slope, while the Lukoil 26 is quoted circa 30 bps lower than the Gazprom 26. The company opened the guidance at 4.25%, which is materially above the YTM of the Gazprom 30 (3.84%), but with the books reported at $2.3 bln at the US open, it may well finish below it, depending on the company's appetite with regard to the size of the bond. Should the final yield be set above the Gazprom curve, we would expect to see some switching out of the Gazprom 30.We think the issuer will have to offer some concession to the secondary levels and do not think that the yield discount to the Gazprom curve is likely to be as wide since Lukoil's intermediate bonds already trade at the curve of the higher-rated and cash-rich Saudi Aramco (A1/A). The latter's spreads have widened over the past months, given the changes in the operating environment and potentially large new bond supply.We do not think the market will have many questions about the credit quality of the particular issuer. The company has a prodigious cash cushion of more than $8 bln and is said to be Russia's lowest-cost oil producer, with net leverage close to zero. If successful, the placement could prompt placements from other good-quality Russian names. Gazprom has large refinancing requirements in 2020 and may come back to the market with a dollar offering, Nornickel and NLMK are reported to have outstanding mandates, and VEON has recently set up a debut EMTN program.