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Don't Cry to Me Argentina
SCOTUS to Argentina: Pay Up, Deadbeat

Shunting aside a plea from the Obama Administration, the Supreme Court ruled on Monday that Argentina had to disclose its worldwide assets to creditors and furthermore allowed a lower court ruling to stand that stated that the South American republic had to pay holdout creditors from its 2001 default. The pair of rulings will likely cost the South American republic billions, both directly and on the international bond market, and imperils the U.S. relationship with that nation.

Both cases stemmed from the same root fact: in 1994, struggling to raise money due to a history of defaults, Argentina agreed to submit to New York law in issuing its next round of bonds, and promised “pari passu”, or equal treatment, to all creditors. Then in 2001 it defaulted on these bonds. Most creditors accepted reduced payments, but NML Capital bought defaulted bonds at deep discounts and sued for full payment. NML insisted that pari passu meant it was legally entitled to be paid whenever Argentina paid any of its other bondholders. It also wanted U.S. courts to force Argentina, which has almost no assets in the U.S., to tell NML where it was keeping its assets worldwide.

Argentina lost on all fronts yesterday. In the first decision, Republic of Argentina v. NML Capital, Ltd., the court ruled that Argentina was not protected by sovereign immunity and had to reveal this information. Meanwhile, SCOTUS let stand a lower court ruling that pari passu applied to all holders of Argentinian debt, issued at any time, equally: the nation must either either pay them all or be seen to default. Argentina had argued that it only had to treat all holders of the 1994 bonds equally, and therefore could force them to take a haircut.

Argentina has stated that it doesn’t have the money to pay back both the old bondholders and those who accepted restructuring, and would default. In fact, a memo leaked earlier in the process suggested that the country would refuse to pay if it lost. President Christina Fernandez de Kirchner said last night that the country would meet its obligations, but added that, “there is no reason why Argentina should be submitted to such an extortion, neither the country nor the bondholders deserve that.” The country may now be on the hook for as much as $20bn, according to the Argentina Independent. Its bonds tumbled yesterday after news of the decision broke, and the Argentina peso collapsed on the Buenos Aires black market.

The 7-1 majority behind the Argentina decision, as well as the decision to flatly turn down Argentina’s other appeal, surprised both financial experts and the Obama Administration. Because pari passu is a standard phrase in government bonds, and yet because sovereign nations have nevertheless historically enjoyed the “ability” to default, this is a notable game-changer. To what extent this will have repercussions in bond markets remains to be seen—U.S. bond markets remain the deepest and most liquid in the world, and certain types of borrowers may not have viable alternatives.

Meanwhile, the U.S. Government, in an amicus curiae brief, had argued that,  “The United States would be gravely concerned about an order of a trial court in a foreign country, entered at the behest of a private person, seeking to establish a clearinghouse in that country of all the United States’ assets.” However, the Court said that the law was clear, and that any problems were Congress’s responsibility to solve through legislation.

As the U.S. works out the affects of this ruling in Wall Street and Washington, we shall see whether Argentina returns to what one lower court called its historical “diplomacy of default.”

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  • Andrew Allison

    Equally interesting was the reaction of the IMF which said, in effect, that allowing bondholders to collect would chill the debtor country bond markets ( In other words, the IMF wishes to enable borrowers to default at the expense of lenders! Madness.

    • Curious Mayhem

      The issue isn’t whether a country can default — it can always do that. It’s whether it can force one or more holdout parties to accept the same treatment as those who agreed to haircuts. Argentina wants to be able to impose haircuts or defaults and not suffer the full consequences to its credit rating.

      This decision has many implications for municipal debt in the US. Doesn’t look good for Puerto Rico, for example. And the rejection of “sovereign immunity” is stunning. I wonder if SCOTUS will apply that rejection elsewhere and open up governments to otherwise prohibited lawsuits.

      • qet

        I would have thought that the probable or possible behavior of Argentina in this regard would have been priced into the bonds and already factored into the credit rating. It is not as though no one could see a default coming when the bonds were issued. The bond buyers can hardly be thought of as victims, and certainly the vulture funds that bought them cannot be. I am having a hard time finding sympathy with any party here.

        • michaelj68

          Argentinian $ bonds have always traded at a large premium over comparable US Treasures because of the risk in lending money to a chronic defaulter like Argentina.

          • Curious Mayhem

            Yes, assuming you mean large premium in yield (large discount in price). The Argentinian bond prices have always carried a “risk premium”; it’s just a matter of how much of one.

            This is excellent news, as it’s a large smackdown of Argentina’s decades-long love affair with Peronism and other forms of populism. Such policies always feature money printing, high inflation, capital controls, serial defaults, and so on. Let’s hope there’s equal clarity and backbone when it comes time for additional defaults and write-downs in the developed world — they are coming.

            It’s not that default shouldn’t be an option. It’s that we should be honest about the options and their consequences.

        • Andrew Allison

          That’s a really interesting point. I’m no no expert, but it seems to me that perhaps what set the initial interest rate was the risk that the value of the bond will decline due to increasing interest rates rather than a default. I take your point that anybody lending to a serial deadbeat like Argentina should know the risks, but we are talking about something quite different here: the value of the bonds collapsed as a result of the default and most of the bondholders decided to settle for what they could get but the hedge funds involved in the lawsuit gambled that they could get more by buying up the devalued bonds and seeking payment in full — a bet which they appear to have won(Argentina’s lawyers are on their way to New York to try and negotiate a deal which will obviously be better than that the one the settling bondholders go). Argentina claims to be afraid that the latter will come back and demand the same better deal, but I don’t think that will fly: they signed contracts agreeing to be scalped. From the moral standpoint (ignoring the fact that financial market morals is an oxymoron), why should the bondholders who agreed to be scalped now be provided with wigs thanks to the risk-taking by more adventurous entities? Argentina is now planning to sell it’s own bonds (governed by what passes for law there) in order to pay the previous bondholders. It will be interesting see whether there are any takers and if so at what interest rate. Anybody who buys a bond governed by Argentinean law deserves what they will assuredly get.

      • Andrew Allison

        I should have written “impose haircuts”, not “default”.

        • qet

          I haven’t read the decision, but from the summary, it appears that all Argentina or any issuer need do in the future is to impose a contractual majority rule requirement in the bond indenture, so that if holders of a majority of the total bond principal elect to take a haircut, the minority is bound by that decision. This is a feature of nearly all equity financing documents and will soon make its way into the debt world, I’d imagine.

  • Natalie

    Excellent news! Though I don’t think bondholders will see a penny of the money owed to them.

  • bobro

    “legally entitled to be payed” Shame on you and your proofreaders, if any!

    • Curious Mayhem

      Yeah, what’s going on with the poofreaders/copy editors here at TAI?

  • Pete

    To bad GM bondholders were not similarly protected from Obama and the UAW robbing them.

    • Andrew Allison

      Detroit’s too!

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