Argentina Plans Debt Swap

18/6/2014

By Ken Parks and Nicole Hong

Maneuver Appears to Circumvent U.S. Court Ruling

Argentina unveiled a controversial plan aimed at preventing the country's second default in 13 years, while hinting it was willing to negotiate with holdout creditors.

The moves, announced by the country's economy minister in a televised address on Tuesday, would enable Argentina to escape a U.S. court ruling that requires it to start making payments to the creditors, something it has resisted for years. Argentina has until the end of the month to reach a deal with the holdouts and avoid defaulting on some of its bonds.

Under the plan, Argentina would swap its existing bonds that are governed by U.S. law for debt that falls under its own jurisdiction, Economy Minister Axel Kicillof said. Such a switch is unprecedented in sovereign-bond markets. While the decision was largely anticipated as a possibility, many lawyers and investors said they have yet to figure out how Argentina could go about making such a change and what such a move would mean for bondholders.

For a start, investors would likely have to give up their rights under U.S. law, such as suing in the nation's courts, and the security of having payments processed by a U.S. bank. On the flip side, they would continue to receive income from Argentina's bonds, which are among the world's highest-yielding debt.

On Monday, the U.S. Supreme Court rejected Argentina's appeal of a lower-court ruling that required Argentina to pay hedge funds that refused to go along with a debt restructuring after the country's 2001 default. Argentina has refused to pay the holdout creditors, which are owed at least $1.5 billion. The lower U.S. court ruled Argentina can't keep paying its other bondholders without also paying the holdouts. The next payment to those bondholders is due at the end of the month.

For years Argentina has been locked in a bitter battle with the holdout hedge funds led by Elliott Management Corp. affiliate NML Capital Ltd. and Aurelius Capital Management LP. On Monday, President Cristina Kirchner labeled their actions as "extortion."

However, Mr. Kicillof indicated that Argentina may be willing to reach a deal with the holdouts. Mr. Kicillof said the government will ask its lawyers to meet with U.S. District Judge Thomas Griesa, who made the original ruling requiring that holdouts get paid.

"The most important and most positive thing the minister said was that Argentina is sending its lawyers to talk with Judge Griesa to try and solve this problem," said Federico Tomasevich, chairman of Puente, an investment bank and brokerage in Argentina.

NML declined to comment. Aurelius didn't respond to a request for comment.

Still, the unusual nature of Argentina's plan and its history of acrimony with the holdout hedge funds, as well as its previous default, have unnerved some investors. Some believe that despite Mr. Kicillof's seemingly conciliatory comments, Argentina may still end up defaulting.

Investors and analysts said that no government has attempted to switch a bond's legal jurisdiction before.

"What they're going to attempt to do is very challenging," said Jorge Mariscal, emerging-markets chief investment officer at UBS Wealth Management, which manages $1 trillion in assets. "It would be extremely unusual for Argentina to get away with something like this." Mr. Mariscal has been recommending that his clients avoid Argentine bonds.

On Wednesday, Argentina's bonds extended their decline. Argentina's bonds due in 2033, which are governed by New York law, fell to around 71.5 cents early Wednesday, the lowest since early March, from around 74.25 cents late Tuesday, according to traders. The yield on those bonds rose to around 12.6% from 12.1%.

The bonds have fallen sharply since Monday, when the U.S. Supreme Court declined to review a lower-court ruling that Argentina must pay the holdouts. On Friday, the 2033 bond traded at around 84 cents to the dollar.

Argentina has $54.8 billion in outstanding bonds that could be directly affected by the developments.

On Tuesday, Standard & Poor's Ratings Services downgraded Argentina's debt to triple-C-minus with a negative outlook, three notches above default, from triple-C-plus.

The case has been closely watched by investors, academics and activists because of the risk it could lead to another Argentine default and the possibility of setting a legal precedent that could have global implications.

On Tuesday, the International Monetary Fund reiterated its warning that Argentina's legal defeat could undermine future sovereign-debt restructurings by other governments. "We are concerned about possible broader systemic implications," the IMF said.

"The most important and most positive thing the minister said was that Argentina is sending its lawyers to talk with Judge Griesa to try and solve this problem," said Federico Tomasevich, chairman of Puente, an investment bank and brokerage in Argentina.

NML declined to comment. Aurelius didn't respond to a request for comment.

Still, the unusual nature of Argentina's plan and its history of acrimony with the holdout hedge funds, as well as its previous default, have unnerved some investors. Some believe that despite Mr. Kicillof's seemingly conciliatory comments, Argentina may still end up defaulting.

Investors and analysts said that no government has attempted to switch a bond's legal jurisdiction before.

"What they're going to attempt to do is very challenging," said Jorge Mariscal, emerging-markets chief investment officer at UBS Wealth Management, which manages $1 trillion in assets. "It would be extremely unusual for Argentina to get away with something like this." Mr. Mariscal has been recommending that his clients avoid Argentine bonds.

On Wednesday, Argentina's bonds extended their decline. Argentina's bonds due in 2033, which are governed by New York law, fell to around 71.5 cents early Wednesday, the lowest since early March, from around 74.25 cents late Tuesday, according to traders. The yield on those bonds rose to around 12.6% from 12.1%.

The bonds have fallen sharply since Monday, when the U.S. Supreme Court declined to review a lower-court ruling that Argentina must pay the holdouts. On Friday, the 2033 bond traded at around 84 cents to the dollar.

Argentina has $54.8 billion in outstanding bonds that could be directly affected by the developments.

On Tuesday, Standard & Poor's Ratings Services downgraded Argentina's debt to triple-C-minus with a negative outlook, three notches above default, from triple-C-plus.

The case has been closely watched by investors, academics and activists because of the risk it could lead to another Argentine default and the possibility of setting a legal precedent that could have global implications.

On Tuesday, the International Monetary Fund reiterated its warning that Argentina's legal defeat could undermine future sovereign-debt restructurings by other governments. "We are concerned about possible broader systemic implications," the IMF said.
New on WSJ: Frontier Markets

Moving the restructured bonds out of New York's jurisdiction and into Argentina's legal system would mean that a substantial majority of bondholders need to agree to the switch to trigger a clause that forces all other bondholders to get on board.

U.S. courts could view any bondholder who agrees to Argentina's offer as helping the country evade the New York court judgment. That would open these investors to legal repercussions, analysts said. Those risks may also prevent global banks with U.S. subsidiaries from transferring Argentina's payments to bondholders, who would instead be forced to use Argentine banks, which offer fewer protections for investors.

A spokesman for Bank of New York Mellon Corp, which sends payments from Argentina to bondholders, said the bank "will comply with any court order by which it is deemed bound."

"It's extremely unlikely that Argentina could figure out a way of paying the exchange bonds in the near term without involving any institution subject to U.S. jurisdiction," said Henry Weisburg, a New York lawyer with Shearman & Sterling LLP who doesn't represent any parties in the case.

The dispute with hedge funds is one of the last significant obstacles preventing Argentina from selling bonds abroad for the first time since 2001. Mrs. Kirchner has relied on a looser monetary policy to cover deficits, contributing to high inflation, and borrowed from the central bank's foreign currency reserves, which are used partly to pay bondholders. Reserves now stand at a 71/2-year low of $28.8 billion.

A default would represent a setback for Mrs. Kirchner, who has recently improved relations with creditors, which analysts have interpreted as a signal the government wants to regain access to international debt markets. Since October, Argentina paid about $500 million to end litigation with foreign companies, agreed to pay the Paris Club of creditor nations some $9.7 billion, and gave oil company Repsol SA about $5 billion in bonds in compensation for seizing its Argentine subsidiary.

Other investors were optimistic that Argentina would get out of its current bind, after so many years of avoiding a second default.

"There's still hope," said David Hinman, chief investment officer of California-based SW Asset Management who oversees $410 million in assets. "There are a lot of avenues for the country to deal with this. Argentina bonds are not trading like there's an imminent default."

Mr. Hinman says he holds a variety of Argentine bonds issued under local law and by Argentine provinces, which aren't directly affected by the Supreme Court action on Monday. He says he's not planning to reduce his exposure to Argentina because the country's bonds compensate investors enough for the risk.

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