The warrants entitle investors to 15% of GDP growth over 3%, and 40% of growth over 4%. Those numbers are capped at 1% of GDP for the first four years and the payouts are paid one year after calculation.
On July 18, the National Bank of Ukraine improved its forecast of Ukraine’s GDP growth to 3% in 2019 and 3.2% in 2020.
Analysts said last week that the most likely outcome for these notes is now a liability management buy-back or exchange on those warrants as they could fast become punitively expensive for the country.
When the notes were issued in 2015 as part of a sovereign restructuring in the wake of Russia’s invasion of Crimea in 2014, not many people expected that the growth forecast for the country in 2019 would be so rosy.
The GDP numbers stack up to these notes being — on paper at least — much more valuable than the trading would suggest. The gap seems to come squarely down to a lack of trust in the country to pay up.
Ukraine has a history of picking and choosing when to honour its debts to international creditors. EM investors have not forgotten what one called an “especially aggressive” restructuring of 100% state-owned Naftogaz debt in 2009 or the fact that these GDP warrants were themselves issued as part of a restructuring of Ukraine sovereign debt in 2015.
It has become clear that Ukraine was a little too generous with these instruments when the restructuring took place and that over-generosity will not sit well with the authorities now. Already, however Ukraine chooses to handle the situation, to deal with these notes fairly will be an expensive and unhappy exercise for the country.
Any liability management exercise will need to be handled carefully. Breaching some of the warrants’ covenants could trigger a cross-default of the other bonds issued as part of the 2015 restructuring: a further $14.4bn. And, moreover, investors have a conditional put option, which will cost the country the full nominal amount of $3.6bn.
Investors clearly approve of the direction of travel for the country since Volodomyr Zelensky’s election as president in May. But the fact that these GDP warrants have not rallied above par demonstrates that investors want to believe in a changed Ukraine, but have not yet entirely forgotten its past.
The treatment of these notes could well end up being the first big test in the financial markets of Ukraine’s ostensible pivot to the West.