The International Monetary Fund’s biggest junk bond is on the cusp of getting even junkier, leaving investors who bought Argentina bonds a year ago under then president Mauricio Macri holding a bag of dust.
Macri was voted out of office in October. His biggest claim to fame was bringing the IMF back to Argentina, bigger than ever, with a hefty $56 billion unpayable loan. He is officially Argentina’s ex-president in five days. Alberto Fernandez and his vice president Cristina Kirchner take over on December 10.
Bondholders are nervous. Distressed asset investors are loving the deep discounts on Argentina debt, hoping the IMF won’t let Argentina default and will extend maturities beyond 2023 when they are due.
There is no way Argentina can pay back the IMF in full within the current timeline. A large tranche of over $20 billion is due in a little over two years. Argentina’s central bank has roughly $10 billion in reserves. The economy has been contracting all year. The government continues to spend money it does not have. It has to. The public is now demanding it spend even more. Indeed, that is why Fernandez/Kirchner won the election.
What does this mean for Wall Street’s bondlords?
President-elect Alberto Fernandez says he does not want to default.
Ricardo Ceppi/ Getty Images
With Fernandez as president, the burden clearly is on investors and the IMF to provide solvency relief to what has become the Mercosul trading bloc’s biggest basket case.
The proposal for a two-year moratorium on all debt service—something Argentina has proposed many times before—is also not feasible. Asking Argentina’s funders to “extend and pretend” forfeiting any near term payments is okay without any reassurance on future debt payments has got to be a nonstarter, says Siobhan Morden, head of fixed-income Latin America at Amherst Pierpont Securities in New York.
“The assumptions of the Fernandez team may quickly shift from re-profiling (the debt) to restructuring once there is careful assessment of the economic situation,” Morden says. “We don’t underestimate the difficulty of designing a realistic economic program under the ideological constraints of a Kirchnerista public consumption growth model that will face pushback from bondholders and the IMF.”
The delays on the appointment of the economic team reflect potential ideological tensions within the Fernandez/Kirchner team. For weeks, investors were willing to believe that a more pragmatic Fernandez would be fully in charge. But now it seems that Kirchner diehards are surrounding him, meaning he may not be a totally independent voice on economic matters.
“This looks like a worst-case scenario,” says Morden about the unfolding Fernandez team. An activist and dominant Kirchner loyalist group inside the administration will be a negative influence on economic policy.
It appears Argentina will return to a public consumption growth model with huge spending initiatives and price controls as a means to control inflation. On the plus side, price controls would anchor inflation enough for the central bank to cut the country’s onerous lending rates of more than 50% per annum.
Still, the investment growth model in strategic sectors “is not realistic” under the constraints of market interventionism, deficit financing, near-zero foreign currency reserves at the central bank, capital controls, a dual exchange rate regime and uncertain relations with creditors, says Morden.
Meanwhile, medium term growth—which is nonexistent—provides no tax revenue for the government.
Currency controls have kept the peso from weakening further. Unlike every free market economy on the … [+] planet, Argentina has two currency systems—the official exchange rate and the black market rate.
Spencer Platt/Getty Images
Distressed asset investors believe that buying Argentina bonds, priced in the 30s, is a steal providing the IMF gives the country some relief by extending its debt payment schedule.
A default is unlikely to wreak havoc on Argentina’s neighbors.
“I don’t see any contagion there,” says Teresa Barger, cofounder and CEO of Cartica Management. “It is ring-fenced by its own history of dreadful governments.”
Argentina was once economically on a par with Europe. Buenos Aires was proudly referred to as the Paris of the South. It remains the most European city in Latin America. But since the early 2000s, with consecutive failing governments unable to pay its bills, Argentina has consistently been a story of one step forward, two steps backward, and little more. The wealthy live on dollars. Real estate and tourism, its wine country and its farmers, live on dollars. To the rest, the peso is unreliable. So is their government. Left-wing populism, kicked into high gear under the governments of Nestor Kirchner and his wife Cristina, may now have irretrievably ruined it. Macri was elected to reverse Kirchner’s damages. He managed to make it worse.
In 2017, foreign investors spent $2.75 billion on Argentina’s Century Bond, a 100-year maturity paying a little under 8% interest. It has already lost a chunk of its value, so anyone buying it has seen their coupon payments vanish as the bond they spent $100 on is now worth around $40.
Writing in MoneyWeek in London on Thursday, retired Finsbury Asset Management portfolio manager Max King noted that over the years, Argentina governments “ensured that there are no domestic savings and negligible investment.”
Everyone in Argentina recognizes this.
“The rule of law and property rights have been undermined to the point of collapse, while punitive taxation and exchange controls prop up the black market and informal economy. There, all activity is directed towards earning dollars to take out of the country and finance emigration, which keeps alive the entrepreneurial spirit. Countries that Argentina once looked down on, such as Chile, Mexico and Uruguay, have overtaken it in terms of GDP per capita,” King warns, adding that “the example of Venezuela, also once one of the world’s richest countries, shows that things can get much, much worse.”