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Argentina

Argentina: Half-baked offer

  • Argentina presented some terms of its bond offer yesterday, proposing a significant cut in interest payments

  • But it left out other key bits of information, so it is impossible to assess accurately; final details are due today

  • Unlikely that bondholders would accept the offer as we know it so far, but Argentina seems in no mood to negotiate

Argentina: Half-baked offer
Stuart Culverhouse
Stuart Culverhouse

Chief Economist & Head of Fixed Income Research

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Tellimer Research
17 April 2020
Published byTellimer Research

Definition of insanity: "Doing the same thing over and over again, and expecting a different result".

Argentina presented its long awaited bond swap offer yesterday (see our preview flash). However, it only presented half of it, announcing some terms but leaving out others, which makes it impossible to assess accurately. Argentina is due to present its full proposal today. Why it couldn't just release all the details in one go like normal is bemusing.

According to the limited information given, the key highlights are that Argentina is proposing a significant cut in interest payments (it says 62%) and more preservation of capital than we might have expected (only a 5.4% reduction in principal). The offer involves a three-year grace period on payments (2020-22), with interest commencing in 2023. The interest rate would start at 0.5% and rise over time, with an average interest rate of 2.3%. In this way, Argentina appears to be presenting a par bond type offer (long maturity, low coupon) rather than a discount bond (nominal haircut, shorter maturity). Of course, the cashflows can be adjusted to make them broadly PV equivalent (as we've seen elsewhere before). So investors shouldn't get too excited that the lack of haircut implies a good deal. 

However, crucial details are missing. We don't know the maturity, the principal repayment profile (bullet or amortising, and if amortising, when and by how much), or the precise coupon schedule. Nor is it clear if the authorities intend any capitalistion of payments during the grace period. We doubt it. Nor, assuming there will be multiple bonds created (with different maturities), do we know the number of bonds and what they will look like. 

We attempt to model what we do know and make other assumptions to try to value the offer. Crucially, we assume three different maturities (10 year, 20 year and 30 year). We assume the bonds amortise from 2025 over the remaining life of the bond in equal semi-annual payments; so that's 14 payments, 34 payments, and 54 payments, respectively. We assume coupons start at an annual rate of 0.5% in 2023 and rise to 4.5% by maturity, in increments of 0.5%, stretching out the length of each step up as the bond maturity lengthens in order to ensure the average coupon is anchored around 2.3% (this is not precise but we're not going to get hung up on this). 

Our estimated recovery values based on these assumptions are shown in Table 1 below over a range of exit yields. Recovery values are expressed per unit of existing principal for value today. Clearly, recovery values decrease as the maturity lengthens, at any given exit yield. The 10yr option would be attractive, but we don't think it is likely. We think Argentina has in mind something longer (20yr, 30yr) based on other reports about where likely recovery values will end up. Under the longer bond scenarios, these suggest recovery values around US$30 or below at a 12% exit yield. These compare with indicative (mid) prices in the belly of the curve of cUS$27-28 (2026-28) and cUS$26 at the longer end (2036-48) yesterday.

We find it very unlikely that bondholders would accept such an offer (as we know it so far), if estimated recovery values are (well) below current prices. However, the estimated recovery values here (it remains to be seen what they would really be pending the full terms) are not so far away from current prices to suggest that a deal is impossible (although that is also conditional on the exit yield which is hugely uncertain today).

We make some other observations. 

1. It is not clear if this is intended to be government's final offer, take it or leave it, or its opening position from which we might expect more negotiation and a possible improvement in terms. Finance Minister Guzman did state, and recognise, that an agreement had not yet been reached with holders, so there might be some wiggle room; but we suspect not much. Of course, Argentina did the same in 2005 with a take-it-or-leave-it offer (which it saw as a success at the time, but which ultimately proved very costly), but the situation now is different, especially in terms of the presence of Collective Action Clauses (CACs) in the bonds, which Argentina needs to understand is a constraint on it, as much as it is for bondholders. If not enough holders accept this time around, Argentina cannot do the deal - as Province of Buenos Aires's various failed consent solicitations showed earlier this year. However, we are not party to the discussions with bondholders, so it is possible - although we think unlikely - that Argentina has garnered sufficient support from key bondholders to move forward (drawing too, on moral suasion, the pandemic, the Pope and the IMF's support). That said, the 20-day deadline the government has given holders to accept the offer and the looming 22 April payment suggests Argentina isn't preparing for more negotiations.

2. As much as the terms (recovery prospects) may be disappointing, the process has been particularly bad. Argentina's approach has been little short of outrageous, inconsistent with established best practice as set out in the IIF/G20 principles for sovereign debt restructuring, and suggests the government has not learnt the lessons from the 2005 restructuring (take it or leave it). Does it really expect the same approach to produce a different result?

3. Indeed, it's disappointing to hear the IMF MD describing Argentina as acting in good faith (as reported by Bloomberg). It's been anything but and sets a bad precedent for how other sovereigns might treat their creditors. 

4. Guzman said that investors have 20 days to accept the offer (from the launch, whenever that is). This is not long, especially given the mechanics of getting the necessary support through on so many bonds on an offer that doesn't look very enticing. 

5. Notwithstanding the difficult global environment, the authorities' policy vision and policy commitment are also important in terms of securing enough support from bondholders for its restructuring offer. It also matters for anchoring the exit yield assumption (at least when some sort of normality returns). However, investors see the authorities' policy commitment as lacking - given for instance the weak fiscal adjustment path that is envisaged - and without an IMF programme, it will be seen as harder to enforce. Of course, the market provides its own discipline on borrowers, but Argentina should be out of the market for years after this affair. Indeed, why would the private sector ever lend to Argentina again? On the flip side, one might argue Argentina shouldn't be defaulting again for a few years (and election cycles) given it won't have any payments to make for two more years, under these terms, and has low payments for a considerable payment of time thereafter (half a percent on US$60bn is only US$300mn). 

6. What will the government do with its upcoming bond payments? Argentina faces US$503mn in coupon payments on three US$ bonds in five days' time (22 April). We doubt the government will pay them on the due date (until now it has been current on its foreign bonds, despite embarking on this restructuring process) but may use the 30-day grace period to buy time. The government may hope it can launch its offer quickly and get acceptance to avoid making the payment. But if it cannot do this, and the expiry of the grace period gets closer, it will face a stark choice between paying or not (hard default) - as happened with PBA. This government has been keen to stress that it will not default. 

7. Semantics over default are a distraction (as we saw in Greece). There is no way a 70% NPV haircut is anything other than a default, whether or not Argentina makes its upcoming coupon payments. 

8. If bondholders do reject this, it is not clear what happens next. Bondholders may prefer to be patient. Argentina on the other hand, facing a sharp economic deterioration caused by its own economic mismanagement, added to the impact of the coronavirus pandemic, faces a stronger incentive to try to reach a solution quickly so it can focus on domestic matters and seek to restore financing (domestic and external), and re-engage with multilaterals. 

Table 1: Illustrative recovery values for Argentina's bond offer* 
Exit yield (%)Recovery value 1Recovery value 2Recovery value 3

10yr (2031 maturity)20yr (2041 maturity)30yr (2051 maturity)
855.643.735.7
951.739.431.4
1048.035.527.8
1144.732.124.7
1241.629.222.1
1338.826.519.8
1436.224.217.9
1533.822.116.1
1631.620.214.6
1729.618.613.3
1827.717.112.2
1926.015.711.1
2024.414.510.2
Source: Tellimer Research. *Based on reported terms of offer, which are incomplete, and our own assumptions.