Wealthy Nations Daily Update - Argentina

In the short period that Mauricio Macri, the President of Argentina, has been in office he has unquestionably made considerable progress in addressing the some of the country’s constraints to growth.  The latest is that he has ended the stand-off between his predecessor Cristina Fernandez de Kirchner and Elliot Management et al. reaching a settlement with the key (85 percent of) holdout creditors by agreeing to pay 75 percent of the value owed on the debt.  Argentina also has to settle with the remaining holders (15 percent of the debt).

Moreover, Judge Griesa has indicated that he will lift an injunction which stopped Argentina returning to capital markets until the holdouts are repaid - conditional on the Argentine congress making the required law changes and as soon as a pending appeal is dealt with. This deal is due to be ratified by the Argentine Congress through the repeal of the “Lock Law”, which prevents the nation from offering better conditions than those offered in the 2005 debt restructuring, and the “Sovereign Payment Law”, which sought to bypass the US court ruling by shifting international debt payments inside Argentina from overseas jurisdictions. This would send a positive signal if the Macri government garnered enough support for this despite having a minority in both houses.  Macri has benefited from 18 members splitting away from Fernandez’s FPV party in the Lower House to form a Justicialist Bloc which is willing to work with the new government.

If everything falls into place it would allow Argentina to return to the capital markets. Argentina has said it is looking to raise up to $15bn from the markets and a good chunk of the proceeds will need to go to repayment of the creditors; Alfonso Prat-Gay, the finance minister, noted debt of $11.68bn would be required if they reach an agreement with all of the creditors.  At the moment Moody’s rate Argentinian debt with legal injunctions a notch below the issuer rating of Caa1 and note, “A definite resolution would eliminate the need to differentiate between the two bond ratings and would facilitate access to international capital markets. Under these conditions Argentina’s sovereign rating could commence its transition out of the Caa range.”

Resolution of the holdout situation and access to capital markets would mark another big step forward following the reform of the exchange rate regime by allowing the peso to devalue and float.  Undoubtedly, there remains a lot that still needs to be done; the 2015 fiscal deficit was 7.1 percent of GDP and inflation at 30 percent, although these are forecast to fall going forward.  If the Macri government manages to bring these under control then, given the country’s degree of economic development and low debt level, Moody’s note the rating could potentially move to the Ba range.

However, as Macri himself stated the culture needs to change and move from one of “corruption, sloth and incompetence” where there is a “lack of planning and responsible thinking” and face up to reality by publishing reliable statistics. Settling with the creditors, or ‘vultures’ as the former President described them, should be seen as a pragmatic move; it would allow access to capital market funding to tide Argentina over until it can start to implement tough structural reforms, stronger institutional structures and boost investment and growth.

For us, amongst the sub-investment grade sovereign sector, Argentina looks to have the greatest potential to get re-rated by the ratings agencies although the path to investment grade will take time. That said, using the USD Argentina 7.875% 2025 yield of ~8% as an indicative trading level for Argentine debt suggests the market has already factored in a fair amount of reform and rerating; Stratton Street’s models put fair value for a Caa1 rated issuer with equivalent duration closer to 1300 basis points over Treasuries; which equates to around a 15% yield.

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