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A serious financial crisis is continuing to unfold in Russia.

Capital outflow: In the last few weeks, foreign investors withdrew their money out of Eastern Europe, the Russian stock market has fallen over 60%, and the government has been on a spending spree trying to prop up the collapsing markets. The very small rally Russian markets have experienced in the last 5 days are rumoured to be due purely to government’s share-buying activities.

As I wrote recently, the government committed a package of $120bn (and some sources say, $200bn) to bail out struggling large Russian banks – against the backdrop of some bank runs and bankrupcies of the smaller players.

Oil price collapse: Coupled with the above, the price of oil has recently fallen back beyond the $70 per barrel, now standing at about $67. Russia needs the oil price to be above $70 to break even and balance its national budgets (compare this to $95 for Iran and and Venezuela, and $50 for Saudi Arabia. Source – NY Times).

So, as Russia makes less and less money through its oil exports and wasting ever-increasing sums of money on propping its markets, where does this leave it?

Debt overload: Predictably, not in a very good position. Russia has accumulated a lot of foreign loans and in the next couple of months, needs to roll over $47bn of them. As there are very few investors left wishing to extend their support to struggling economies, this task will be exceedingly challenging. In total, Russia has $530bn worth of foreign debts, clocked up during the recent years of massive market expansion and over-confidence. Of these, another $150bn are falling due to be refinanced in 2009.

On track for downgrading: S&P issued a warning that it might downgrade Russian government bonds reflecting the declining credit-worthiness of the state. However presently, it maintains a credit rating of BBB+, the third lowest investment grade. If Russian bonds are downgraded further, this means they will lose their investment grade status, and any further credit to the country will cost it even more.

Moody’s downgraded the Russian financial outlook from “stable” to “negative” in the last week, citing “slowing asset growth, higher inflation, the slump in equities and funds leaving the country, all of which could result in deteriorating fundamentals for banks” as reason for its decision.

Credit default swaps, which are being taken out as means of insuring investors against (in this case) Russian government bankruptcy, are reflecting this in their pricing. CDS spreads (the difference between the buy and sell quotes), which serve as a measure of risk tolerance, are widening massively, reaching a 1,123, which is higher than spreads on Iceland’s debt before it sought a rescue from the International Monetary Fund, reports the Telegraph.

Russian government heading for bankruptcy? Thus the creditworthiness of the Russian state is in itself in question. It may be that the Russian government is heading for a default on its foreign debt, as it did fairly recently in 1998 – although the situation in 1998 and 2008 is somewhat different.

 

Copyright 2008 by CuriouslyInspired

I don’t have any answers. And today, I feel the weight of fear and uncertainty over the impact of the Global Meltdown on people closest to me. The government measures do not seem to be working to stop the systemic panic that has taken hold of everyone. Markets are in freefall across the globe.

Lehman’s CDS settlement: Part of the reason’s for today stock market crash is the fear surrounding the need to settle Credit Default swap (CDS) protection on Lehman Brothers’ debt. This is due to happen today. The size of financial contracts under settlement is $400bn.

CDSs are a type of financial insurance policy (loosely speaking) written by a financial institution to protect the holder against the risk of a specified party (in this case, Lehman Brothers) going bust. Now that Lehmans is bankrupt, the holder will want this policy paying out. If the payout does not happen, the holder of the policy is at massive risk as it does not get the money it was counting on. The payout might also not happen if the writers of the policy do not have enough cash to pay all obligations. If things go sour, this will impact banks which have so far not been in the spotlight being the writers of these contracts, or the holders of these contracts – such as JPMorganChase.

There is uncertainty that this settlement can take place today, given the state of world’s markets and absence of liquidity. If it goes wrong, this might kick off a further chain reaction of negative events. 

Gloomy thoughts of the day: Going back to the economy, here is what I fear might happen – and I do feel quite negative today – we can check how close or far off the mark I was later this year:

  • Lower limit of indices: Only 2 days ago I speculated (at home) that FTSE 100 will stop before crashing through the 4000 psychological barrier. This has already taken place – it’s trading below 4000 – so the reality is worse than my fears. So should FTSE 1000 at 3000 be the limit?
  • Markets shut down for weeks: We have already seen Iceland and Russian markets closed. Will US and UK and other major stock markets follow suit in an effort to curb panic?
  • Sweeping reforms: There might be major reforms taking place in the economy and finance. I cannot discount the possibility of drastic steps such as freezing all savings as reforms are carried out. Your money might not be safe wherever it’s held. Our Governments have guaranteed savings so far – but will they be able to stand by that guarantee? I fear they could abandon it if they really had to.
  • Pensions and Investments: Any stock-market reliant savings held in funds, have already lost a massive chunk of their value. My own savings held in funds are down 25%. People close to retirement are going to struggle to live on what is left. Savings are not safe wherever they are. If there is something akin to a currency reform, then all savings can be taken away anyway as part of that. How much faith do we have in the Government’s guarantee on existing deposits? I would not trust it 100%.
  • More bank failures: I am sure we’ll see a few more of these, causing problems with existing savings lost or frozen
  • Recession: Fears deepen about entering a major recession akin to the Great Depression of the 1930ies. The IMF is speculating this might last until the end of 2009. Could it be longer? Could it be years of hardship for people who worked for decades on end to secure their future?
  • People take to the streets: Wouldn’t you – if things got very bad? It’s the likes of you and I who can topple governments, if we are truly p*ssed off.

Because at this stage, no-one seems to really know what to do next.

 

Copyright 2008 by CuriouslyInspired

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