Russian ruble trading steps back in time

It takes 20 years to electronify a market and five minutes to ruin it. This may sound like a Warren Buffett quote, but it is actually a close representation of the Russian ruble market.

Using electronic trading venues such as Cboe, EBS, Euronext and Refinitiv, amongst others, as well as single bank proprietary trading platforms, has been the predominant way for liquidity providers, asset managers, corporates and hedge funds to trade the ruble.

According to the New York Fed’s Foreign Exchange Committee volume survey from October 2021, nearly two-thirds of ruble average daily volume was traded electronically. This was up five percentage points from October 2020 and 10 percentage points from 2019.

Yet over the course of the weekend following Russia’s invasion of Ukraine and after a swath of global sanctions were enforced, all but a few of these venues suspended trading in the currency and most offshore trading shifted back to bilateral and voice execution.

With most ruble trading returning to its pre-electronified state, it is making an already expensive currency even more difficult to trade for international clients. With the efficiencies of electronification gone, trading directly with a bank means clients would lose out on the benefits of aggregated pricing and netting.

Exposure to the currency has largely become toxic for any liquidity provider (LP) or prime broker. Many FX prime brokers have cut off credit lines to their hedge fund clients wishing to execute any ruble trading on these venues. A recent research note from JP Morgan points out that these reduced trading limits and credit lines are likely preventing efficient arbitrage between the onshore and offshore FX market, creating further divergence between the two.

Bid/offer spreads for dollar/ruble have also fluctuated dramatically over the past month, making it extremely illiquid for traders. According to the JP Morgan note, average daily USD/RUB spreads widened to a high of 10% of mid on March 7 and hovered around 6% throughout March. With the lack of participation of LPs or prime brokers, volumes on the Moscow Exchange make up nearly all trading of rubles, compared with an estimated 30% before the invasion.

Activity in the offshore non-deliverable forward (NDF) market is all but dead, eliminating a key practice whereby banks hedge their NDFs with deliverable ruble contracts, further impacting liquidity.

“Given the large gaps between the offshore and onshore rates (which also reduces the ability of market makers to hedge NDF contracts with deliverable contracts), we understand that most offshore turnover (perhaps 80%) now favours deliverable FX forwards,” says the JP Morgan research note.

The ultimate question is how long will this state of play last? If liquidity providers and prime brokers were concerned about volatility, then some would take comfort that the ruble has almost stabilised around its pre-war level.

Some investors are even bullish on the currency. H20 Asset Management has made headlines defending its long ruble bet despite suffering substantial losses. Meanwhile, the Russian government is determined to prop up the currency by attempting to force buyers of its energy to pay in rubles rather than dollars. The JP Morgan note suggests these recent pressures to pay in rubles “could perhaps increase offshore-onshore trading to facilitate such payments, potentially reducing frictions in the market.”

However, Russia’s attempt to transfer around $650 million of bond payments in rubles may rather suggest it is on the brink of another default.

At the moment, it’s anyone’s guess whether normality will return. The exclusion of Russian banks – the predominant suppliers of rubles – from trading with their international peers and investors will make it extremely difficult for anyone to trade in the offshore market. Banks are carefully monitoring the continued disjoint of NDFs and onshore deliverable rates. As such, overcoming pricing uncertainties will not be a quick fix.