What Does a Russian Default Mean?

A Russian bond default means a lot and not very much. It depends.

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Governments borrow money. People borrow by going to banks for a loan. Institutions borrow by selling bonds. Those bonds pay interest, usually due every 6 months.

If you're 1) a rich country, 2) have well-developed financial markets, and 3) have a government that's trusted by your citizens — then you sell those bonds on your own domestic markets. This is what the U.S. does.

But most countries fail one or more of those, and in the case of Russia probably all three. Countries like that sell their bonds in other countries' financial markets. Usually they have to offer a higher interest rate.

But how to pay that interest? Generally, if you sell a bond in America it stipulates that you have to pay interest in dollars, in the EU  in euros, and so on.

Bonds are sold in big blocks. Russia does stuff like sell bonds with a face value of $3,000,000,000 by selling 15,000 of them with a face value of $200,000. Then they might sell multiple blocks like that with  different starting dates.  Those starting dates determine when the interest is due: usually every 6 months after that, until the bond matures. Choosing a bond maturity is part of the process, but Russia (like other countries) sells bonds with different maturities: 10 year, 30 year, and so on.

Russia has 2 blocks of bonds, with interest denominated in dollars, that are due tomorrow:

• One is for $3,000M face value of 10 year bonds with a 4.875 coupon rate that pays semi-annually. This means they owe $3,000M x .04875 x 0.5 = $73,125M.
• The other is for $1,500M face value of 30 year bonds, with a 5.875 coupon rate that pays semi-annually. This means they owe $1,5000M x .05875 x 0.5 = $44,062.5M.

Russia has other bonds denominated in euros. One is due next week, for about €65M, and another for €102M due the week after that.

Russia has the foreign exchange to pay for those. But no one will let them access their funds.

That money is owed to western investors. So this is very much a situation of "let's put sanctions on Russia that actually hurt us first". That's why sanctions are such a difficult thing to pull off.

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These Russian bonds are special. They allow for interest payments in dollars or in rubles (same with those eurobonds).

This is an unusual feature, but with bonds you can put these in the contract and see if you get buyers. If they buy, they agreed. Generally, to do something like this that could favor the seller, you have to offer a higher interest rate (and these bonds to carry a higher rate than other issues sold by Russia). Caveat emptor.

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Let's start with default. This means a bondholder fails to make an interest payment (on time, and then there's a grace period). 

Default is an official designation: like a "mark on your permanent record". 

Generally speaking, if Russia defaults, no one will loan them anymore money. This is not a big deal for Russia right now: no one will deal with them anyway.

It's more of a problem down the road when there's peace and Russia wants to move on from this conflict. Lenders will be more wary of them, and not buy without a much higher interest rate.

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Then there are the CDS's sold to insure Russian bonds.

The declaration of default is important. If that happens, the CDS counterparties will pay the holders of Russian bonds. The lenders won't get back everything, but they'll get back a significant fraction of the money they're owed ... including future interest payments.

In exchange, those counterparties take possession of those bonds. They can then try and recoup the money from Russia. That will go nowhere for a while. But here's the thing ... down the road ... when there's peace ... and Russia wants to borrow again ... those counterparties will be first in line and no one will loan Russia money until they pay up.

Argentina went through this several years back. An investment company had bought their defaulted bonds, and sued, and finally go their money after about 15 years. There return over the entire period is estimated at 1500-2000%.

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The amounts here are not huge: less than 1% of what the U.S. government borrows. 

And while those interest payments sound large, they are small compared to Russia's foreign exchange.

My bet is that default is declared, once the war is over Russia settles up fairly quickly, and the world moves on. I very much doubt that this will turn out to be a big issue that forces Russia to back off any time soon.