Streetwise Professor

In earlier posts I pointed out a couple of loopholes in the sanctions related to derivatives. Derivatives were explicitly excluded from the mid-July US sanctions imposed on Rosneft and other companies.

One loophole is that US persons can effectively provide credit to Rosneft and other firms subject to US sanctions but not to sanctions by the EU (or other foreign jurisdictions) by selling credit protection on the sanctioned companies to non-US person financial institutions, who could then expand their lending to offset the effect of the inability of US financial institutions to lend directly.

The other loophole is that a sanctioned firm (even one sanctioned by the EU, because its sanctions will evidently include the same loophole) can synthetically create a long-term bond that it cannot issue directly due to the sanctions by borrowing for 90 days, rolling the borrowing, and entering into a payer swap. The swap would effectively convert the floating, short-term rate into a longer-term fixed rate, thereby substituting for a prohibited long-term loan or debt security.

Neither of these is perfect substitutes for the banned transactions, but they are fairly close substitutes.

According to Bloomberg, the US Treasury is considering adding derivatives and short term borrowings to the list of transactions prohibited under the sanctions:

The U.S. might move to limit derivatives trading and short-term loans with Russian companies if sanctions already imposed fail to sway President Vladimir Putin to end support for rebels in eastern Ukraine.

U.S. citizens and businesses are still permitted to trade in outstanding debt of any maturity and new short-term debt and derivatives with sanctioned Russian companies. Restrictions on money-market financing and derivatives could be imposed if tougher penalties are necessary, said a Treasury Department official who asked not to be named because further options are still being discussed.

These limits would close off the loopholes that exploit derivatives and short-term borrowing.

I wonder whether these moves had been considered all along, or whether UST learned that financial institutions and sanctioned companies were exploring those loopholes. Interesting development, regardless.