23/6/15: Ukraine's Debt Haircuts Saga: One Step Forward, Two Steps Back

Two big setbacks for Ukraine in its bid to cut the overall debt burden and achieve targets mandated by the IMF.

First, Moody issued a note today saying that Ukraine will be in a default if it haircuts principal owed to private creditors. The agency said it believes Ukraine can deliver USD15.3bn in savings without haircuts. Ukraine believes it cannot. IMF backed Ukraine on this, but it is not to IMF to either declare a default even or not. Moody further noted that any moratorium on debt redemptions will have long-term implications for Kiev access to international debt markets.

Second, the IMF has signalled that private debt open to haircuts under Kiev-led negotiations does not include debt owed to Russia which is deemed to be official sector debt. This is not surprising, and analysts have long insisted that this debt cannot be included into private sector haircuts, but Kiev staunchly resisted recognising debt to Russia as official sector debt.

Incidentally, Ukraine debt to Russia is structured as a eurobond and is registered in Ireland, as reported by Bloomberg. The bond is structured as private debt, but Russia subsequently re-declared it as official debt. Re-declaration was somewhat of a positive for Ukraine, because a default on official debt does not trigger automatic default on private debt (the reason why the bond was originally structured as private debt was precisely the threat that a default on it will trigger default on all bonds issued by Ukraine). Ironies abound: IMF is happy to declare Russian debt to be official sector debt, because it takes USD3 billion out of the pool of bonds targeted for haircuts. This implies that for Kiev to achieve USD15.3 billion in savings, Ukraine will most likely need to haircut actual principal outstanding to private sector bond holders - something IMF wants Kiev to do. So here, too, Russian side gain is also Kiev's gain.

Ultimately, in my view, Moscow should write down the entire USD3bn in debt owed by Kiev. Because it would be ethical to do, and because it would help Ukraine. But that point is outside the fine arts of finance, let alone beyond the brutal realities of geopolitics.

More background on both stories: http://www.bloomberg.com/news/articles/2015-06-22/moody-s-backs-creditor-math-in-resisting-ukraine-debt-writedown.