Yesterday, September 16, Russia’s markets faced their worst day in many years since 1998. The Russian stock market, been under pressure from US financial crisis and Lehman Brothers collapse, have crashed down 17% from market opening levels. This forced Russia’s stock exchanges to suspend further trading in stocks until Wednesday, Sep.17. Lending between local banks dried up and rouble and rouble-dollar overnight rates jumped to 8.5% and 12% respectively.

 

The government held an emergency meeting on financial and systemic crisis in the financial system attended by the finance ministry, the Central bank and Russia’s market regulators later in the day.

 

The government together with finance ministry and the Central bank announced a number of liquidity boosting measures aimed to smooth the situation and restore the market confidence.

 

In the end Russia's Finance Ministry announced on Wednesday, Sep.17, it would offer extra budget funds for deposit at three of the country's major banks in a bid to boost banking sector liquidity and stave off a crisis in the financial market.

 

State-owned Sberbank and VTB will get deposits of up to RUB 754.2 bn and RUB 268.5 bn, respectively.

 

Gazprombank, the banking arm of Russian gas export monopoly Gazprom, will get up to RUB 103.9 bn.

 

The total amount of budget funds available to be put on deposits at commercial banks will be increased to RUB 1.5142 trillion (an equivalent of USD 59.37 bn).

 

"By the end of the week, the government of the Russian Federation and the Bank of Russia will take further additional measures to support liquidity in the banking system," the Finance Ministry said in a statement.

 

Russia's central bank announced it will "broaden" possibilities to provide liquidity to the banking sector.

 

The bank will abolish the 1.25% discount on sovereign bonds accepted as collateral in REPO transactions – the central bank's main tool for pumping liquidity into the banking sector.

 

In the opinion of the central bank's the measure will help boosting liquidity by RUB 10 bn roubles (USD 392.2 mn) daily.

 

There were several important factors leading to stock market crash in Russia, but perhaps the most important could be easily seen.

 

In the past many Russia’s banks used the stock market rally to borrow against stock collateral in REPO market. From what we hear we assume Russian banks borrowed serious money against stocks they held. So when the stock market began crashing many local banks and funds were already up to their eyeballs in the stock REPO loans. Understandably Russian banks did many of stock REPO deals directly with off-shore foreign banks.

 

As global financial crisis forced non-resident investors to rush for an exit in an attempt to get the much needed liquidity that led to a massive selling in financial markets in general and Russian stock market has been particularly badly hit. Yet, since about two weeks now trading volumes on stock market became thin suggesting many non-residents pulled their funds out already.

However collapsing stock prices began triggering ’’margin calls’’ on stock REPO which put Russian market and banks into a tailspin. Local banks scrambling for liquidity to deliver margin calls rushed to loan market and tried to get rid of their dwindling stock holdings. Huge demand for foreign currency from banks paying margin calls to their foreign lenders also put more pressure on rouble Forex market.

 

At the end, as unbelievable as it may sound, Russian banks themselves are mostly responsible for the market demise we were witnessing this September, as they simply abused REPO lending in the past years and faced substantial claims pursuant to the REPO agreements. The crash of the US fourth largest investment bank Lehman Brothers was just one of many factors that forced Russian market collapse.

 

And local Moscow sources tell us REPO margin calls were a major source for market troubles we have seen this week.

 

The rouble market and Forex market might be a little calmer today but their troubles are far from over. It remains unclear how much Russian banks owe in REPO still and whether foreign buyers will return to Russian stock market in coming weeks. However local Moscow sources tell us REPO volumes in Russia are large enough to make you worry. Perhaps we should not be overly optimistic about foreign buyers who themselves are trapped in many issues and struggle for liquidity. So Russian banks will have to sail on their own and refinancing problems coupled with tremendously increasing costs of refinancing are likely to keep Russian market under pressure.

 

Government liquidity providing measures are a welcome step in the right direction but the government cannot and will not clean banks balance sheets, so the origins of this crisis will not fade away and bearish mood may remain on the market. We still have to see what more measures Russian government will be willing to bring by the end of this week in order to stop market bleeding.