By
Nikita Bundzen Head of North America Fixed Income Department
Updated October 24, 2024
What is a Replacement Bond?
A replacement bond refers to a local bond issued within the territory of the risk country of the issuer. It serves as a substitute for eurobonds' debt repayment when the issuer loses the ability to pay. This can occur due to various reasons, such as financial difficulties or default. The replacement bond is issued as a means of addressing the inability to fulfill obligations associated with the original eurobonds.

Replacement Bond Explained
A replacement bond is a type of local bond issued within the territory of the risk country of the issuer, primarily to address situations where the issuer has lost the ability to pay the debt associated with eurobonds. When an issuer faces financial difficulties or defaults on its eurobond obligations, a replacement bond may be issued as a substitute means of repayment.
It's essential that the parameters of the replacement bond closely resemble those of the eurobond being replaced. This similarity ensures continuity and consistency in the investment for bondholders. Specifically, parameters such as maturity date, coupon rate, cash flow (payment schedule), and face value should align with the original eurobond.
Access to replacement bonds is typically available to holders of eurobonds issued by sub-sanctioned issuers. The process for obtaining replacement bonds is relatively straightforward. Holders simply need to submit an application for the exchange of their existing eurobond holdings for the replacement bond. This allows investors to transition seamlessly from the original eurobonds to the replacement bonds without significant disruption to their investment portfolios.
Advantages and Disadvantages
Advantages
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Absence of Sanctions Risks. Holders of replacement bonds are not exposed to sanctions risks, providing a sense of security and stability in their investment.
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Tax Preferences. Holders may benefit from tax preferences as securities are taxed according to the laws of the country of risk, potentially resulting in lower tax liabilities compared to other investment options.
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Preferential Issuance Terms. Replacement bonds may be issued under preferential terms, often without the need for extensive documentation, streamlining the investment process for holders.
Disadvantages
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Currency Risk. The payment currency of replacement bonds is tied to the currency of the country of risk. Fluctuations in exchange rates can significantly impact the actual income received by investors over time, introducing uncertainty and potential losses.
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Low Liquidity. Replacement bonds may suffer from low liquidity in the secondary market, meaning that it can be challenging for investors to buy or sell bonds at fair prices. This lack of liquidity can limit investors' ability to quickly exit their positions or take advantage of favorable market conditions.
Reasons for Needing Replacement Bonds
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Change in Ownership. If ownership of the bond needs to be transferred due to various reasons such as inheritance, divorce, or change in guardianship, replacement bonds may be required.
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Name Change. Individuals may require replacement bonds if there has been a legal name change, such as due to marriage or divorce.
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Damaged Bonds. If the original savings bonds have been damaged to the point where they are no longer legible or redeemable, replacement bonds may be issued.
Example
An example of a replacement bond can be seen in the case of Gazprom, a prominent Russian company. In response to sanctions imposed by world depositories such as Euroclear Bank and Clearstream Banking S.A., which limited the ability of Russian issuers to make payments on their eurobond debts abroad, Gazprom issued replacement bonds.
One such replacement bond issued by Gazprom is the ZO23-1-E 4-02-36400-R-003P, which serves as a substitute for the original eurobond. This replacement bond is denominated in euros and has a maturity date of November 17, 2023, with an interest rate of 3.125%.
Investors holding the original eurobond, such as Gazprom, 3.125% 17nov2023, EUR (39), may have chosen to exchange their holdings for the replacement bond, thus mitigating the risks associated with the sanctions and ensuring continued access to payments on their investments.