Russia's savvy bond deal: US money might pass straight through Ukraine to Moscow

quote:

---

FORTUNE -- Just months before the toppling of its government, Russia cut a loan deal with Ukraine that would make even an ace structured finance dealmaker envious. One expert on sovereign debt has called the transaction "clever." And the deal could come back to haunt Ukraine's economy.

Back in December, Russia lent Ukraine $3 billion as part of an assistance package that was supposed to reach $15 billion. But Russia didn't just hand over money directly to Ukraine. Instead, Russian had the Ukrainian government issue $3 billion in bonds. The bonds were denominated in euros. And then Russia bought all of the bonds.

That may have seemed like a straightforward way to do the deal. Ukraine already had billions of eurobonds outstanding. So issuing more may have appeared easier than writing up a new loan agreement. Plus, the deal would give a lift to the prices of Ukraine's other eurobonds, which were already suffering from the growing political turmoil in the country.

But the roundabout loan deal had more advantages for Russia than it first appeared. Here's where things get interesting.

It turns out that Russia didn't just have Ukraine do a straight debt offering like the ones it had done before. Instead, Russia wrote into the new bond offering a provision. As part of the bond deal, Ukraine had to promise that it would keep its debt-to-GDP level below 60%. If it rose above that level, Russia had the right to demand the bonds be repaid immediately in full.

That kind of qualification in government bond deals is unusual. Mitu Gulati, a sovereign bond expert, says he has never seen a government bond with a similar debt-to-GDP provision. Most sovereign debt is "covenant-lite."

It would be hard to prove this was premeditated, but including that provision gives Russia a lot of economic leverage. At the time, Ukraine's debt-to-GDP was near 40%. But with Russian looking likely to hive off Crimea, and taking that portion of the Ukraine's economic activity with it, along with the slowdown the political unrest has caused, it's likely that by the next reading or two Ukraine's debt will be in the 60% range or beyond it.

That means Russia can ask for its money back, and at the same time add more economic hardship to Ukraine as it struggles to rebuild.

LINK

---