T-Bill Doldrums Defy Rally

Like yin and yang, Russia's equities and debt markets have taken markedly separate paths in recent months. Stocks soared to new highs last week, while yields on state treasury bills shot up as Russian banks dove out of government paper.

Analysts point out that they are two very different markets -- stocks dominated by foreigners, bonds dominated by Russians.

Westerners are racing in droves to Russian securities based on polls showing President Boris Yeltsin pulling ahead of Communist opponent Gennady Zyuganov in the run-up to June's presidential election

But the buying likewise is attributed to timing, according to Nicholas Jordan, head of Russian capital markets for Deutsche Morgan Grenfell. While fund managers were spending on other emerging markets early this year, they were withholding funds set aside for Russia until the right moment.

"Essentially, money that had been earmarked for Russia along with other emerging markets just had not been invested," Jordan said. "Now they're trying to invest quickly."

On the bond side, however, the lack of interest is partly political, partly supply-and-demand.

The Russian government has become dependent on T-bills to finance a yawning federal budget deficit brought on by poor tax collection and Yeltsin's pre-election spending pledges. But Russia's commercial banks -- the only investors who can take complete advantage of the market -- are politically and economically tapped out.

The political factor is seen in the weighted average yields of bonds maturing before the elections and those maturing after the elections -- a difference of more than 50 percent, according to the investment house Alliance-Menatep.

"The main reason [for the T-bill slump] is a different risk profile for the investor," said Thomas Reed, director of fixed income for Alliance-Menatep. "Russian investors stand to lose all their assets if the election goes bad, whereas portfolio managers have only 5 percent or 10 percent invested in Russia."

But although banks may allow political risk to decide whether to invest in short-term versus long-term paper, Reed and other analysts agree that overall investment is falling due to the same poltergeist that has haunted Russian banks from the start -- a lack of liquidity.

"I think we're almost at the peak of [financing the deficit] on the commercial banking system," said James Kilzer, main partner of financial services at Price Waterhouse. "There's nobody there to buy [bonds]. Certainly not in the commercial banking system."

That Russian banks simply do not have the money to invest has raised concern over Wednesday's primary auction planned by the Ministry of Finance -- at 10.5 trillion rubles ($2.1 billon), it amounts to about 15 percent of all of the government's outstanding T-bills, according to James Fenkner, director of research for CentreInvest.

With so much supply coming onto the market and a banking community short on resources, yields are expected to skyrocket.

"It's a massive amount," said Fenkner. "We're expecting ruble yields to be well over 200 [percent]. Unless the Central Bank intervenes."

And aside from the commercial banking system, Russia's Central Bank is the next likely candidate for diving into the bond markets -- a move generally considered to be bad economic policy, paramount to raiding hard-currency reserves necessary for maintaining the ruble corridor.

Not helping the market's future is the Communist economic platform, released over the weekend, which lambasts the government's bond market as a financial pyramid drawing resources that could otherwise be spent on industry and the social sector.

Most analysts say the solution to rising T-bill yields is to further broaden access to the same foreigners driving Russia's stock market crazy -- access currently limited to specific percentages of any given issue, with rates of return capped much lower than that offered to Russian banks.

"The way it could be quickly and efficiently remedied is by the transparent access of foreigners to the [T-bill] market," said Jordan, adding that the government's second option would be to tap foreign markets using instruments such as the Eurobond.

A $300 million to $400 million Eurobond issue is planned for July after the elections.