Moscow-based Lukoil (VIE: LKOD) priced US$1.5bn worth of ten-year notes Tuesday, while Russia’s energy-fueled economy has generally been beset by the coronavirus crisis and crude oil carnage.

Corporate bond investors mostly welcomed Lukoil’s (OTCMKTS: LUKOY) new investment-grade, U.S. dollar-denominated debt sale, despite Russia’s gloomy economic conditions.

The ‘BBB’-rated notes, which were sold in a private placement, narrowed by roughly 37.5 basis points over the course of pricing to arrive at a final yield to maturity of 3.875%. The yield on the benchmark 10-year U.S. Treasury note was bid at around 0.615% intraday Tuesday.

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The senior unsecured issuance, due May 2030, was jointly managed by Citi and Societe Generale.

S&P Global Ratings, which assigned a ‘BBB’ credit rating to the offering, noted that Lukoil likely intends to use the proceeds from the sale for general corporate purposes.

S&P said it expects the weakening Russian ruble and country’s tax regime will support the company’s credit quality, “despite depressed oil prices.” It also anticipates that prices of Brent will be around $30 p/barrel until the end of 2020, while “high” exposure to Russia’s country risk, as well as related macroeconomic and geopolitical factors, remain key ratings constraints.

Meanwhile, Lukoil’s leverage at year-end 2019 was only around 0.1x.

Credit Concerns

The offering comes amid the recent plunge in the cost of crude oil, as well as at the heels of a protracted contraction in Russia’s manufacturing sector.

The recent oversupply and waning demand dynamics for petroleum have generally pushed prices lower while hampering the growth and perceived creditworthiness of some major state-owned Russian oil companies.

Year-to-date in 2020, American depositary receipts (ADRs) of several Russian energy firms have plummeted by around a one-third to two-fifths of their value, including Lukoil (-33.3%), Gazprom (OTCMKTS: OGZPY, -39.17%) and Rosneft (OTCMKTS: OJSCY, -40.0%), while the active WTI crude oil contract has fallen by roughly 78.5% from its latest 52-week high of US$61.70 set in early January.

The iShares MSCI Russia ETF (ERUS), which has among its top holdings Lukoil, Gazprom, MMC Norilsk Nickel (OTC: NILSY) and Sberbank (OTC: SBRCY), has also lost more than 28% year-to-date.

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Against this backdrop, the market’s perceived confidence in the ability of certain Russian energy companies to meet their debt obligations has also deteriorated.

Over the past three months, five-year credit default swap (CDS) spreads on Gazprom, Rosneft Oil, and Lukoil have each widened by around 140 bps, with levels Tuesday ranging between 230 bps to just south of 300 bps.

Some of Lukoil’s outstanding notes have also shed value, with its 4.75% notes due November 2026, for example, having fallen to a recent 52-week low of 99.60 in mid-March from a peak of 112.44 earlier in that month. The notes were last trading at around 107.6 – following the OPEC+ agreement.

Central Bank Support

To help support the nation’s economy and financial health, the Bank of Russia on April 24 cut its key rate by 50 bps to 5.5%. The action marked the seventh time the central bank has reduced rates over the past 12 months – for a total of 225 bps.

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The Bank of Russia largely attributed its latest decision to the significant restrictive measures used to combat the coronavirus pandemic both in Russia and globally, which it said: “creates material and prolonged disinflationary influence on price dynamics from the aggregate demand perspective.” It added that this, in effect, “offsets the effect of temporary pro-inflationary factors, including those related to the fall in oil prices.”

Indeed, Russian domestic, as well as global containment measures to prevent the spread of COVID-19 have met with a drop in external demand. This decrease, along with the fall in oil prices and other Russian exports, have spurred a material negative impact on the country’s economic activity.

The Bank of Russia noted the “steep decline” in both the services sector and the manufacturing industry, underscored by waning business sentiment and expectations, will likely contribute to negative growth – with GDP expected to contract by 4-6% in 2020.

The grim picture of Russia’s economy has generally pushed spreads on its sovereign five-year CDS wider by more than 118 bps over the past three months to nearly 183.3 bps.

In the meantime, IHS Markit is set Thursday to unveil its manufacturing PMI for April, after the level dropped to 47.5 at the end of the first quarter. In fact, the IHS Markit Russia Manufacturing PMI has resided in contraction territory – below the 50-mark – since May 2019.

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However, the rate of decline in March was the fastest for three months, amid stronger contractions in production and new orders. IHS Markit said, as a result, business confidence dropped to a series low, as firms expressed uncertainty over the global economic outlook following the COVID-19 outbreak.

Amid the ongoing virus-induced, government-mandated lockdowns throughout the world, including in the U.S., Russia’s manufacturing PMI in April may well fall below 40, according to a Bloomberg survey.

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