EARLIER THIS YEAR, rating agency Moody’s Investors Service published a report on the growing importance of securitization in Russia and other emerging European markets. "As the popularity of securitization continues to sweep across Russia," it read, "the government has indicated its intention to continue developing legislation and regulations that would simplify the securitization process." This support from the government is critical to the impressive growth of securitization in Russia.
President Vladimir Putin’s target is for one-third of Russians to own their own homes by 2010, and his government has been active in reaching that goal. Renewed state investment in housing has been made a national priority. The mortgage market has taken off, growing at well over 100% a year. The need to finance these mortgages is pushing the next step in the development of Russia’s securitization market. "When it became clear that mortgage lending was something the country desperately needed, the potential for a huge mortgage market was obvious," says Michael Strange, director of financial institutions securitization at Barclays Capital. "The demand and the origination infrastructure were there, it just needed financing."
The Agency for Housing and Mortgage Lending (AHML), which operates a Fannie Mae-type model in Russia and was established by the government to encourage the mortgage market in the primary and secondary markets, priced its first public MBS transaction in May, arranged by Citi. The Rb2.9 billion ($112 million) issue of class A notes was placed on Micex, the Moscow Interbank Currency Exchange. The deal was the first MBS in Russia to be tranched, and the first with true bankruptcy remoteness. It set the benchmark for Russian domestic MBS issuance.
Who needs legislation?
The banks are following suit. Mortgage-backed securities, it is generally agreed, will be the big growth product in the Russian securitization market over the coming months and years. But unlike with AHML, most banks are not looking to take advantage of domestic legislation. In fact, there is general indifference to the development of Russia’s domestic securitization legislation. "In our view we don’t depend very much on the domestic legal framework," says Victor Kisselev, deputy head of debt and trade finance at Vneshtorgbank (VTB). "We can use international structures for our deals."
Kisselev says that the problem is that the domestic Russian investor base is not only too small to play a significant role in the burgeoning securitization market but also lacks experience in investing in the product. Because of this, VTB has almost exclusively targeted continental European investors with its securitization deals.
Others echo this opinion. Timur Kibatullin, co-head of debt capital markets at MDM Bank, explains that domestic legislation relating to securitization transactions is not as important as many people think. "In Russia, we haven’t got an investor base with the right liability profile, sophistication level and appetite necessary for investment in structured paper," he says. "Do we have a lot of money? Yes. Are these monies right for domestic issuance? No."
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"There is a huge question about US investors. As deal sizes grow, we will have to go there eventually"
Victor Kisselev, Vneshtorgbank |
So far, only two transactions have been arranged under domestic MBS legislation: the AHML deal and one from Gazprombank last year, a $219 million-equivalent issue arranged by Barclays Capital. All other banks are happy to use international structures, as this better suits their target investor base. In time, Russian investors will become more familiar with securitized products but until then domestic legislation will not have a great impact. "Eventually the markets will converge," says Kisselev at VTB. "Russians will buy international issues and vice versa. But at the moment the lack of fully developed Russian legislation is not an obstacle."
Underlying practices
For now, domestic Russian securitization will mostly be bought by foreign investors, who are playing a larger role in Russia and are keen to buy rouble-denominated bonds. Many have developed infrastructure for settling transactions in roubles. This is important, as the proportion of rouble-denominated deals is expected to increase. Historically, most securitization issues have been dollar or euro issues. "This comes from underlying mortgage practices," says Kisselev. "In Moscow and St Petersburg most mortgages are in dollars. In the outlying regions they are in roubles."
The growth of Russia’s mortgage market was for a significant period mostly confined to the two urban centres of Moscow and St Petersburg. As a result, most banks’ mortgage profiles are predominantly dollar-denominated. Russia’s securitization market is new, and establishing oneself in it is a complicated and expensive process. To avoid further complexity and further risk many banks have chosen to issue in the same currency as the underlying assets, passing the FX risk on to the borrowers. So most mortgage-backed issues have been denominated in dollars, which plays well to foreign investors. "Our deals are denominated in dollars, as our main assets are in dollars," says Anton Pak, managing director of corporate development and investor relations at Rosbank. "Most investors want euro or dollar deals, so we decided to issue in dollars to minimize complexity."
But as the banks, with government support, push the development of Russia’s mortgage market into the outlying regions, the currency make-up of their mortgage pools will change. Mortgage loans issued in these regions are rouble-denominated. Not only that, but the proportion of rouble mortgages issued in the cities is growing. In Moscow, for instance, many people are highly sophisticated, and look carefully at currency rates. When the rouble was weak, Muscovites managed to get paid in dollars, which they could do because there were many foreign companies in Moscow with dollar economies. Recently, the rouble has been strengthening, despite the government’s efforts to curb its appreciation, and as a result the proportion of mortgages issued in roubles has increased. Consequently, it is likely that the proportion of rouble-denominated MBS deals will also increase, although banks will become more willing to take on hedging risk once they have more experience of these types of securitization deals, so issuance in foreign currencies should not drop too significantly. Indeed, many banks may prefer to take on the extra complexity and extra risk of issuing dollar or euro securities backed by rouble assets because that’s what investors have appetite for. Although rouble deals are becoming more attractive to the buy side, dollar or euro issues are preferable. "For future deals we will consider issuing in rouble deals but the investor base for rouble deals is much smaller," says Pak. "A lot of funds that buy deals in euros or dollars will not buy similar deals in roubles."