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 After a long legal battle with hedge funds that rejected Argentina's
debt restructuring following a 2002 default, Latin America's
third-biggest economy failed to strike a deal in time to meet a
midnight payment deadline.
The immediate focus was on whether a group of big banks and funds
overseen by the International Swaps and Derivatives Association
would declare the situation a "credit event".
Any such ruling would set off a series of insurance payments and
give most of Argentina's current bondholders the right to demand
their money back immediately. The deadline is August 4, according to
analysts.
The cost of insuring Argentina's debt against default fell sharply
on Thursday, however, data provider Markit said, as investors
speculated a deal could be struck, even if only in the long term.
The country's five-year credit default swaps fell more than 400
basis points to 1,444 bps.
"It is still not clear whether the credit default swap of the
country will be triggered," said Emiliano Surballe, fixed income
analyst at Bank Julius Baer. "The situation that generated the
default was a lawsuit, not the failure of the country to transfer
the proceeds to pay existing debt."
Argentina parked with its bankers the money to pay its current
bondholders, but a U.S. legal ruling prevented it from doing so
unless it paid off the holdout bondholders first.
"It's probably going to be more a soft default scenario where prices
will slide a bit. There is confidence in what the government is
going to do," said Rune Hejarskov, senior portfolio manager at Jyske
Invest, which holds Argentinian debt.
The default could get much messier and take longer to clear up if
creditors force an "acceleration" for early payment on their bonds.
Some investors saw this as unlikely.
"I don't think at the moment there is a clear answer to whether
bondholders will accelerate a deal. It's probably not something most
bondholders would like to see," said Olivier De Timmerman, fixed
income fund manager at KBC Asset Management in Luxembourg.
"My expectation is that they will eventually reach an agreement with
holdouts. I do not think it will be in the short term, but likely
after the foreclosures have expired towards the end of the year," he
added.
The bonds at the center of the struggle had rallied strongly on
Wednesday along with Buenos Aires stocks and the peso as bets on a
deal rose, but traders were left up in the air after the talks fell
apart.
"We expect part of (Wednesday's) rally to come back to couple of
points ... Discount bond (bonds given to investors when Argentina
restructured) prices will come back a bit and we will probably see a
fair value around 85." said Hejarskov.
Even a short default will raise local companies' borrowing costs,
pile more pressure on the peso, drain dwindling foreign reserves and
fuel one of the world's highest inflation rates.
"It is going to complicate life for businesses like YPF which were
going to look externally for financing," said Camilo Tiscornia, a
former governor of Argentina's central bank.
VERY PARTICULAR DEFAULT
Argentina had sought in vain a last-minute suspension of a ruling by
U.S. District Judge Thomas Griesa in New York to pay holdouts $1.33
billion plus interest. He ruled Argentina could not service its
exchange debt unless it paid the holdouts at the same time.
A proposal for Argentinian banks to buy out the hedge funds'
non-performing debt also fell through, sources told Reuters.
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But it is a far cry from the mayhem following the crash in 2001-2001
when the economy collapsed around a bankrupt government and millions
of Argentines lost their jobs.
This time the government is solvent. How much pain the default
inflicts on Argentina, which is already in recession, will depend on
how swiftly the government can extricate itself from its
obligations.
"This is a very particular default, there is no solvency problem, so
everything depends on how quickly it is solved," said analyst Mauro
Roca of Goldman Sachs.
Buenos Aires had argued that agreeing to the hedge funds' demands to
pay them in full would break a clause barring it from offering
better terms than those who accepted steep writedowns in the 2005
and 2010 swaps.
That clause expires on Dec. 31, however, after which the government
would be able reach a deal with the funds. Many investors and
economists hope for some solution after then.
"Our base case is that a default would be cleared by January 2015,"
said Alberto Bernal, a partner at Miami-based Bulltick Capital
Markets. He projected that a default would cause the economy to
shrink 2 percent this year compared with a previous market consensus
for a 1 percent contraction.
Failure to strike a deal will not cause financial turmoil abroad
because Argentina has been isolated from global credit markets since
its 2002 default on $100 billion of debt.
Argentina has foreign currency restructured debt worth about $35
billion while its foreign exchange reserves stand at $29 billion.
"The correction will depend on perceptions of how long the default
will take to solve," said Roca.
U.S. ratings agency Standard & Poor's on Wednesday downgraded the
country's long- and short-term foreign currency credit rating to
"selective default". The default rating will remain until Argentina
makes an overdue June 30 coupon payment on its discount bonds
maturing in 2033, the agency said.
Germany, which is Argentina's biggest individual creditor, expects
Argentina "to continue to respect its commitments to the Paris club"
of sovereign lenders, a spokesman for the German economy ministry
said on Thursday.
He said an initial partial payment equivalent to $650 million had
been transferred to creditor states on July 28/29 and that Germany
expected the next installment on existing arrears to be paid at the
end of May 2015. "Germany can confirm receipt of such a payment,"
the spokesman said.
(Additional reporting by Richard Lough and Eliana Raszewski in
Buenos Aires, Spriya Srivastava, Marc Jones and Andrew Winterbottom
in London, and Gernot Heller in Berlin; Editing by Jeremy Gaunt)
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