Adverse US Supreme Court Ruling
Undermines Argentina’s Ability to Return to Capital Markets
June 24, 2014
What happened, in brief?
Argentina has recently taken strides toward making amends with international lenders, including the IMF and the Paris Club. Such efforts were motivated in large part by the government’s desire to regain access to international capital markets; however, hopes of such a return were dashed by the US Supreme Court decision compelling Argentina to pay its holdout creditors in full if and when it issues coupon payments to restructured bondholders. Argentina has long held, and is in fact bound by domestic legislation to insist, that it will not pay holdout creditors, but has maintained that it is willing and able to pay restructured bondholders.
Argentina’s obligations to holdout creditors participating in this round of litigation amount to a relatively manageable US$ 1.33 billion, but this ruling opens the door for other holdouts to come forward, leaving Argentina potentially liable for close to US$ 15 billion dollars, which is more than half of Argentina’s current stock of foreign exchange reserves. This would leave Argentina in a dire situation, and thus, the government is likely to maintain its hardline stance against paying holdouts in full. This leaves policymakers with a handful of unappealing options and a ticking clock, as the next coupon payment to restructured bondholders is due on June 30th, and a technical default could occur as soon as 30 days after this date, when the grace period will expire.
What are Argentina’s options?
It could pay holdout creditors in full—that is, the US$ 1.33 billion that is the subject of current litigation—and continue to pay restructured bondholders. This option is feasible but politically unpalatable, and opens up the risk of additional claims that will prove overwhelming given scarce reserves and existing external financing requirements
It could attempt to negotiate with holdout creditors and offer to let them participate in the restructuring process. Domestic legislation prohibits this option, but this legislation is set to expire in December; some holdout creditors have indicated that they would be open to such a swap
It could attempt to avoid paying holdout creditors while simultaneously swapping restructured bonds currently governed by US law for bonds governed by local law. Given the extraterritoriality concerns and lack of transparency regarding ownership of bonds, this option would be difficult to execute, but it is one of the only concrete proposals made by the government thus far.
It is also worth noting that any failure to pay holdouts would amount to technical default and bar Argentina from the US financial system
It could enter into technical default, refusing to pay both holdout and restructured bondholders
Among these options, what is the government’s most likely course of action?
The government thus far has opted for a hybrid solution—on the one hand, there is talk of swapping restructured bonds for local bonds, so that restructured bondholders can still be paid, albeit outside of the US financial system. The government reportedly also plans to negotiate with holdout creditors outside of court, in the hopes of reaching an agreement that will allow it to avoid default. There is sure to be little good will and considerable animosity on both sides of the negotiating table, but ultimately, nearly all parties involved—holdouts, restructured bondholders, and the Argentine government included - will prefer a settlement to default.
What does the increased possibility of technical default mean for the business environment?
Regardless of which course of action is chosen, the ruling has negative implications for the Argentine economy and business environment. Even if we assume that technical default is avoided—which is by no means a safe assumption at this point—Argentina’s borrowing costs and risk premiums have already increased, and its reserves—not to mention potential future dollar inflows—will decrease, putting downward pressure on the overvalued peso.
Had the court ruling proven more favorable and the government been able to resolve its legal dispute with holdouts and return to capital markets this year, dollar inflows could have helped to boost reserves and stabilize the exchange rate.As it stands, such a return is highly unlikely and the chance of additional currency depreciation, perhaps on par with that seen in January, has increased markedly.
FSG will be closely monitoring the government’s response this evening, and will ensure that you are kept informed of developments and their implications for the business environment.
What can you do today to help protect your business?
FSG has a host of resources on contingency planning and management challenges in risky markets, including Argentina and Venezuela. We encourage FSG clients to take a look at these resources on our portal, and reach out to your account manager to set up an analyst conversation for an in-depth walk through.
We will soon be releasing research on scenario planning for Argentina, which will help you set expectations regarding the implications of Argentina’s near- to medium-term outlook for your business.