The country’s Ministry of Finance sold some $270 million worth of war bonds on Tuesday, in local Ukrainian currency, to “ensure the uninterrupted provision of the state’s financial needs during the war,” according to a statement. 

“We see it as a good outcome, and we’re going to continue further,” Yuriy Butsa, the Ukrainian government commissioner for public debt management, told Bloomberg TV after the sale. 

So what exactly is a war bond, and how does it differ from other kinds of bond investments?

The key thing to know is that investors receive a much lower return for their risk. Ukraine offered an 11% yield in exchange for creditors lending them their capital for just one year. That may sound like a juicy return, but inflation is already at 10% in the country. 

And the chance of Ukraine missing a payment was already considered to be high before Russian tanks rolled into the country. Ukraine’s conventional dollar-denominated bond maturing in 2032, for example, dropped to a price of just 31 cents on the dollar on Monday, according to the Financial Times, indicating institutional investors were pricing in the expectation they would lose most of their capital.

With hostilities continuing, Ukraine is now effectively locked out of professional debt markets, unable to borrow at rates it can afford. Countries lose access to funding typically not because there’s a lack of bond investors, but because those investors demand interest rates so high, the ability to service this debt becomes prohibitively expensive.

Unlike the average 10-year Treasury or German bund, Ukraine’s war bonds are therefore not marketed at the world’s money managers, who demand a corresponding premium to shoulder the chance of default. Instead, they are sold primarily to individuals—average citizens who don’t focus on maximizing returns.

So why buy these securities? 

Deep in junk bond territory

War bonds aim to tug at emotions by appealing to one’s sense of patriotic duty at a time of need and typically are sold to retail investors at home. The U.S. relied repeatedly on their use during the two world wars.

The problem for Ukraine’s leader, Volodymyr Zelenskyy, is that he inherited a country whose economy and finances were already in a dire state before Russia even started bombing campaigns on major cities like Kharkiv.

According to a report from last April by the International Monetary Fund, Ukraine had the fifth lowest rate of growth among all countries in the world during the 1990–2017 period after winning independence.

The outbreak of the pandemic was ultimately too much for it to cope, and Ukraine became a ward of the IMF. In June 2020, it signed on to receive an aid package worth $5 billion to bridge a short-term liquidity gap. Late last year this 18-month loan, known as a Stand-By Agreement, was extended until the end of June and an on-site team of IMF advisers were due to arrive in Ukraine around the time that Russian troops attacked.

Following the invasion, Fitch downgraded Ukraine’s debt rating to CCC, which places it deep in junk bond territory and among some of the least creditworthy issuers around. 

Ukraine has now made a fresh request for aid to the IMF though a separate channel designed for extreme situations like war: the Rapid Financing Instrument. The IMF said on Wednesday its board would consider this request as early as next week.

Meanwhile the Ukraine government is also considering expanding its war bond offerings, not just in local currency, but in dollars and euros—likely in an attempt to tap into demand from patriotic Ukrainians in the diaspora. New York, for example, is home to the largest ethnic Ukrainian population in the U.S., according to state Gov. Kathy Hochul.

Selling war bonds abroad would likely mean relying on state guarantees from allied governments like the U.S. to facilitate regulatory approval for selling securities, however. 

“I’m not sure we’re in a position to have a stand-alone issuance there, but we will explore all options,” Butsa said.