November 26, 2014
Default looms as time runs out for debt deal
Gov’t has until Wednesday to reach an agreement with holdouts before grace period ends
As negotiations with holdout investors have seemingly gone nowhere and neither side shows signs of blinking first, Argentina is now closer to default on its debt by Thursday when the 30-day grace period to pay holdouts ends. Nevertheless, a last minute deal can’t be discounted yet.
The government has for years fought the holdout hedge funds which snapped up its junk bonds after its US$100 billion default in 2002 and then refused the restructuring terms, suing for repayment in full.
But time is up. After a slew of legal setbacks for Argentina in US courts, the country has just days to comply with a 2012 ruling by US District Judge Thomas Griesa to pay US$1.33 billion plus interest to the funds.
If the deadlock persists, Griesa will prevent Argentina from making a July 30 deadline for a coupon payment on exchanged bonds, triggering a new default just as the economy struggles with recession, dwindling reserves and inflation.
“The outcome is still uncertain, with just days before a technical default is triggered,” said analyst Mauro Roca of Goldman Sachs. ‘A deal now seems unlikely.‘
Unlike Argentina’s 2001-2 debt crisis when it was broke and could not pay its civil servants, this time around the country is solvent but prevented by Griesa from servicing its bonds until the battle with the holdouts is resolved.
Argentina’s combative stance has upped the odds of a default. Efforts to find a solution through a mediator have made scant progress, with one of the lead holdouts saying the government had made clear “it will be choosing default.”
The government argues a deal with the holdouts would leave it at risk of breaking the so-called RUFO clause which bars it from voluntarily offering better terms to investors than what it gave in the bond swaps accepted by 92.4 percent of creditors. RUFO stands for “rights upon future offers.”
With the RUFO clause set to expire on December 31, Argentina wants a stay on Griesa’s ruling to allow negotiations without risking claims from exchange bondholders that the government estimates could hit US$400 billion. So far, the judge has refused.
MESSY OR CLEAN
A high-stakes game of poker is playing out. Griesa’s ruling prohibits Argentina from servicing its restructured debt until it settles with the holdouts.
If neither side flinches, Argentina will default as of July 31. Although it will have sufficient finances to service its foreign currency restructured debt, worth US$35 billion, it will be unable to get payments to creditors outside Argentina.
How much pain the default causes at home will depend on how quickly Argentina can extricate itself from the mess. That will largely be determined by whether Argentina persuades bondholders it is ready to negotiate a swift settlement after the December 31 expiration of the RUFO clause.
If it can, there is less chance of a so-called “acceleration” demand by bondholders for early payment. Bondholders might then simply have to wait a few months for their payments.
In this scenario, borrowing costs for Argentine companies and provinces would rise.
“We’d likely see higher yields, which is bad for the investment environment, and a default could spark some capital outflows which would start putting a strain on the currency again,” said David Rees at London-based Capital Economics.
If more than 25 percent of holders of exchanged bonds call on Argentina to “accelerate” the payments, the country will become mired in a far messier default that will take longer to clean up.
Argentina could restructure its bonds under local legislation to circumvent the US court ruling, though this is seen as unlikely, analysts say. Alternatively, it could offer a new bond swap, still under foreign legislations - a scenario that would likely have to include holdouts if Argentina ever hopes to tap international markets again.
In the interim, financial pressure would grow as debt servicing costs more than double in 2015 and reserves fall to critically low levels.
“If this stretches into next year when you have a US$6 billion maturity on the Boden15s ... that becomes problematic to finance,” said Stuart Culverhouse, head of research at Exotix, a frontier markets broker in London.