UPDATE 1-Russia tension affecting investor sentiment-Fitch

Tue Aug 26, 2008 2:52pm BST

* Rising tension with West could damage investor sentiment towards Russia

* Russian corporates, quasi-sovereigns seen most at risk

* Some impact on sentiment towards wider region

* Fitch watching other "frozen conflicts" in region

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By Peter Apps

LONDON, August 26 (Reuters) - Rising tension with the West could damage foreign investor sentiment towards Russia, ratings agency Fitch said on Tuesday, although it does not immediately threaten Russia's sovereign rating.

But Fitch head of emerging European sovereigns Edward Parker told Reuters conditions for Russian corporate and quasi-sovereign borrowers may become more difficult in the aftermath of its invasion of Georgia.

He said the fallout of the conflict may also affect sentiment towards other Central European and ex-Soviet states but that the oil and gas-rich country's vast foreign reserves eased the risks to the Russian economy.

Fitch rates Russia as "BBB+" with a stable outlook.

"In terms of the cost of the conflict, the impact on the economy is negligible," he told Reuters in a telephone interview.

"We're not expecting to take a negative action with regards to Russia's rating. The main potential impact on Russia is through an impact on capital flows into the country... affecting foreign investment."

Russia recognized Georgia's breakaway regions of Abkhazia and South Ossetia as independent states on Tuesday, setting it on a collision course with the West. Russia's ambassador to NATO compared the situation to 1914 when World War One was about to break out.

Parker said Russian foreign exchange reserves saw a slight fall last week but that it was too soon to say if the trend would continue.

"It's still very early days to assess the impact," he said.

"Given that Russia has $580 billion in foreign exchange reserves, it has the ability to ride out weekly changes."

But he said some Russian corporate borrowers as well as quasi-sovereigns -- firms seen almost indissolubly tied to the state -- might face problems with foreign lenders.

FROZEN CONFLICTS

"There are a significant number of corporates who are very dependent on international capital markets," he said.

"There could be an impact on the Russian banking system as well."

Investor sentiment towards other regional economies was also being affected, he said.

Ukraine is seen amongst the most exposed, with any fall in foreign direct investment potentially making it harder to cover their current account deficit.

Parker said there was already some impact on investor sentiment towards the Baltic states as well as Central European countries such as Poland, which has angered Russia by agreeing to house a U.S. missile defence shield.

"We don't see any immediate impact -- it's more a potential impact if Russia decides to take more aggressive action in due course," Parker said. "But it is affecting investor sentiment."

He said Fitch was keeping a close eye on other "frozen conflicts" in the region such as Moldova's Transdniestria region -- which like Abkhazia and South Ossetia is home to Russian peacekeepers -- as well as in Azerbaijan and Armenia.

Azerbaijan and Armenia remain locked in a territorial dispute over the Nagorno-Karabakh region. Parker said Fitch did not expect conflict in any of those regions, but if one did occur it would be potentially negative for their credit ratings.

He said Russia's recognition of the two Georgian breakaway regions did not significantly itself change the credit picture for either country. Fitch downgraded Georgia to B+ with a negative outlook at the start of the war.

"This has been predictable since the start of the conflict earlier in the month and is within what we have factored into the current credit rating," he said.