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With so much downside risk already
priced into Argentine bond markets, today’s unexpected order issued
by the Appeals Court offered investors a scarce moment of relief.
Argentine Discount bonds which fell $9 points (-14%) after
Wednesday’s hearing now rebounded—albeit only $3.5 points. If we
are right, market relief will prove to be a short-lived
affaire.
The order requires
Argentina to explicitly provide an alternative pro rata formula to
the Court. That can be interpreted as a sign of a Court eager to
seek compromise in the dispute between Argentina and holdout
creditors and potentially ready to take a pragmatic approach in
guiding the parties to that settlement. The market certainly may be
seeing it that way—alternatively, the rebound may reflect the
natural response to prices that otherwise reflect a systematic
downward risk-skew. A possible silver lining to this situation can
hardly be ignored.
An order looking for
compromise...
We were surprised by
the order as we thought the hearing had settled the record for the
judges. But we are not surprised by the sense of compromise driving
that order. Indeed, one of our main conclusion from the hearing was
that the judges were entertaining the idea that a possible
alternative pro rata formula to that of the District Court (100%
upfront payment) was a 100% claim paid out in installments. We
noted after the hearing that the judges tried to “spoon-feed” this
idea to Argentina to see if it might break the ice no success
(see:
Argentina: NY Court ready to slam the door of the US payment system
shut in Argentina's face,
Feb 28).
Today’s order proves
that this specific in court back-and-forth between judges and
Argentina was as meaningful as suspected. However, we were wrong to
think that the judges left the courtroom resigned to work with the
elements presented in oral argument alone that included Argentina’s
“take it or leave it, all or nothing” request that the Court rubber
stamp the “cram down” of its 2010 swap on holdout creditors.
Thus—at least for the record—the order has now revealed that the
Court was not to be satisfied with a vague response (Judges seem to
want an explicit numerical answer* to compare the District Court’s
100% formula to). And that as long as it could afford a glimmer of
hope it would give parties a chance to compromise. As one judge put
it, “politicians change their mind all the time, don’t
they”
... But one within
very strict—politically inconvenient—parameters
We are skeptical and
prefer to be proven wrong by fading the market rebound than proven
wrong by buying into it “hook-line-and-sinker.” We have several
reasons/assumptions for this that we lay out below:
1. A
cram down (convenient to Argentina) is not likely to be the idea
behind the Court’s order:
First, as the Court
said in the hearing: “we do enforce contracts, we do not rewrite
them.” Thus, we find it hard to believe that the court has in mind
a “cram-down” of holdouts to establish a sovereign bankruptcy
precedent. Instead we think that the Court expects Argentina to
consider something else (and which we believe is the politically
impossible): to pay holdouts claims in full but with some benefit
in the form of a reasonable installment scheme (which is what we
inferred they were suggesting in the hearing).
2. The
court set up a new round of “game of chicken”:
Second, the Court
established March 29 (Friday) as the date of receipt for the
order—which is just prior to the next coupon payment due March 31
(Sunday). This sets up another game of chicken which raises—rather
than reduces—risk of a technical default. Friday is a
non-settlement day for the market (Good Friday), so presumably
Argentina might need to wire the payment on the
28th ahead of what could be an adverse
ruling from the court (if what the Court expects and what Argentina
will offer differs as we believe). And given bond conventions,
investors would then get paid on April 1 (Monday). While Europeans
will be celebrating Easter that day, in the US its April Fools
Day—and we have ill feelings about what could be in
store.
3.
Argentina seems politically wedded to its position: a
cram-down.
Third, almost
simultaneously to the issuance of the NY court order, President
Kirchner was addressing Congress in Argentina and defending
Argentina’s litigating position: namely, that Argentina will only
pay holdout creditors the same terms that exchange bond holders
accepted in the sovereign restructuring—effectively demanding from
the court a unprecedented cram down that is plainly inconsistent
with the Court's mandate to enforce contractual law in the US.
President Kirchner said that anything different would be (a)
illegal [given the Lock Law], (b) not economically feasible
[because there are “me toos” in line with more claims], and (c)
unfair to the majority of creditors, the restructured bondholders,
who accepted a haircut [and which were given a “rights upon future
offers clause”, extinguishing Dec 2014].
Beware the April
Fools orders
If we are right, then
the Court will not get what it expects and could—having crafted its
order prior to the 29th—sign an adverse ruling to
Argentina alongside the lifting of the stays when it confirms on
that same day that it has received what we expect constitutes an
unacceptable proposal from Argentina. Argentina can plan on
requesting an extension of stays upon petition of review by US
Supreme Court but it will not have certainty on the
28th whether this will be granted. If
Argentina does wire the funds, the debt service (due to be
disbursed to bondholders on April Fools day) will be travelling
through the indenture trustee, the registered holder, and the
clearing systems through to the beneficiary banks could be endanger
of being halted at some stage. The district court orders (unless
modified by the Court of Appeals) enjoin all intermediaries
including the clearing systems. Faced with uncertainty, Argentina
may decide to make use its grace period and delay payment (it can
do so for 30 days) until the coast is (hopefully and presumably)
clear. In this type of stand-off too much can go
wrong.
Are there any signs
of a possible change of heart from Kirchner?
We think no. But
economists following the data closely might be tempted to point to
the central bank balance sheet as offering some obscure evidence of
a political change of heart from Argentina's president confronted
with the imposition to pay $1.4 billion to litigants.
Indeed, gross
international reserves have fallen US$1.6 billion ytd, driven by a
US$1.2 billion ytd fall of Treasury deposits at BCRA. What is odd
about this is that the decline of the Treasury’s cash position of
the past two weeks cannot be related to any scheduled external debt
payment. There is no way to prove whether this might reflect that a
government strategy to stock pile cash elsewhere with a mind to
satisfying a potential court ruling is—a decision which would be
completely unexpected and a huge relief for the market. But
politics suggests this is not the case.
Though we do not know
where funds are being channeled to, we are not convinced its the
holdouts. To assume that the movement or application of these funds
might be anticipating a U-turn in Argentina’s hard line strategy vs
holdout creditors sounds, at a minimum, precipitated.
* The order requires a
proposal from Argentina stating:
(1) how and when
Argentina proposes to make current those debt obligations on the
original bonds that have gone unpaid over the last 11
years;
(2) the rate at which
Argentina proposes to repay debt obligations on the original bonds
going forward; and
(3) what assurances, if
any, Argentina can provide that the official government action
necessary to implement its proposal will be taken, and the
timetable for such action.
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