By Ignacio Portes, a freelance journalist who lives in Buenos Aires. He has been published in English at PandoDaily and NsfwCorp
The protracted legal saga between Argentina and NML Capital, Paul Singer’s hedge fund, owner of a fraction of Argentina’s non-restructured, pre-2001’s default debt, went through a decisive moment last week, when the Supreme Court of the United States declined to hear Argentina’s appeal. This means that the Bank of New York Mellon is still forbidden from allowing any payments made from Argentina to the ample majority of bondholders that accepted the restructuring to go through, unless NML Capital is also paid in full, with no reductions, in the same act, because of New York’s Southern District Judge Griesa’s ridiculously harsh interpretation of the “pari passu” clause as meaning that NML Capital can’t be “discriminated” from full payment just because it didn’t accept the restructuring offers.
With the “stay” order lifted after the Supremes Court’s decision, Argentina faced a huge conundrum that needs solving before June 30th, when an interest payment on its restructured debt is due. The country could either pay both the restructured bondholders and Paul Singer’s vulture funds, or get creative to find workarounds to avoid default without paying them.
Swallowing national pride and paying NML Capital the roughly $1.5 billion of debt it owns might look feasible at first sight, but it isn’t. After Singer is paid, the rest of the holdouts would demand equal treatment and, given the legal precedent, they would probably get it. If all the holdouts that own the 7% of debt that Argentina couldn’t restructure after its 2001 default get their way, it could multiply the amount Argentina is forced to pay by about ten. And $15 billion is half of Argentina’s already weak FX reserves, which, with Argentina’s currency already punching above its weight, would surely mean a big devaluation or a run against the peso.
And that wouldn’t even be the end of it: there’s still the Rights Upon Future Offers (RUFO) clause in the exchanged bonds’ contract, which says that the 93% of debt that Argentina did restructure cannot get worse treatment than the other 7%, so if the 7% is paid in full, the haircut given to the other 93% could be declared null too, and Argentina’s massive 2005 debt renegotiation could even fall completely: in that scenario, Argentina would suddenly have to pay an extra in the range of 100 to 200 billion dollars to the bondholders that had originally accepted restructuring. It might not get that bad, as there could be negotiations and reductions with both the holdouts and the holders of restructured debt, but it would still be massively bad news for Argentina’s debt.
The other option is getting creative. And this is the route that Argentina has apparently decided to take and, despite what some Very Serious Economists in Argentina might tell you, it seems the most responsible one.
The possible creative paths were all difficult. One of them was trying to set up a payment to the holders of the 93% of bonds, that Argentina has so far been paying without trouble, outside of New York, where no US Judge will block the payment until Paul Singer and co. get theirs, but many would consider that a violation of the terms originally agreed, and a technical default too.
Another (murkier) avenue some finance commentators suggested exploring was making a deal behind the scenes with a third party, such as an international bank, or a conglomerate of Argentine investors in which the government could trust, which should buy Singer’s bond at a price that would suit him (full value, or close to it), then accept Argentina’s restructuring offer, with a reduction similar to what the other bondholders accepted, and be compensated in some dodgy way behind everyone’s back. Give them some new bonds after the operation was completed and the RUFO clause avoided, promise them access to some unrelated, juicy state contracts in the future, whatever it takes to ensure the RUFO clause doesn’t get triggered. But there’s little time to pull that off, as the next payment to exchange bondholders is due on June 30th, and a court of law might object to the procedure too, if the holders of some of that 93% of restructured debt legally protested about this being just a convoluted mechanism to avoid paying them as much as they were paying the inflexible vultures.
So Argentina seems to have settled on something close to what Georgetown law professor Adam Levitin suggested at Credit Slips.
Hours ago, economy minister Axel Kicillof announced that Argentina has just deposited the money for the June 30th payment to the restructured bondholders, just short of a billion dollars, most of it at the Bank of New York Mellon (BNYM), which is contractually in charge of most of the operation. As New York’s Southern District Judge Judge Griesa’s ruling forbids BNYM from effectively transferring that money to each of the bondholders, a prohibition that NML Capital reminded BNYM minutes after the Kicillof’s announcement, the situation could enter a sort of legal limbo, that could be in line with Levitin’s described scenario:
I think this tees up two intriguing scenarios that would potentially play well for the Republic.
Scenario 1: No Payment, and No Default. In the base scenario, Argentina avoids default by offering to pay BNYM, and BNYM declines the payment without any liability. Argentina, then hasn’t paid anyone and still hasn’t defaulted. The result is that the obligation remains in a sort of suspended animation. In theory this could continue indefinitely. But no default, so no cross-defaults, and the Republic gets to hold on to all of the funds (interest would accrue, but that’s nothing different). This actually seems like a reasonably good outcome for Argentina, as it puts Argentina in a good position to force some sort of negotiated settlement and incentivizes the exchange bondholders to buy out the holdouts so that they can get paid on the exchange bonds.
Scenario 2: Trustee Files an Article 77 Petition in NY State Court and Gets a State Court Ruling on Pari Passu. Faced with the base scenario’s strange limbo of no payment and no default, BNYM could go to New York Supreme Court with an Article 77 petition seeking advice from the state court about what it, as a trustee, is supposed to do. Article 77 is a rarely used procedure, but BNYM has used it before, such as in the $8.5 billion Bank of America MBS settlement. What is particularly appealing about Article 77 here is that it is a very open-ended, ill-defined inquiry. That means that it might be possible to get the NY State court to rule on the interpretation of the pari passu clause (perhaps through an intervention by the Republic in the Article 77 proceeding). If that happens and the Republic got a favorable interpretation, then the Republic could then turn around and seek to get the federal court to rescind its injunction on something like a Rooker-Feldman doctrine basis. At the very least, going into state court with an Article 77 proceeding would buy the Republic some time, and it might be a way to get to what the Republic really wants, which is a New York State court ruling on pari passu.
And buying some time is absolutely vital for Argentina, because it means that it’s getting closer to the magic deadline of December 31, 2014, in which the dreaded RUFO clause that could, in the worst-case scenario, all but bankrupt the country’s finances, mercifully expires.
If Argentina manages to get to New Year without paying the vulture funds, at least it ensures that the 2005 and 2010 discounted bonds won’t suddenly cost the Republic a lot more money than the 35% of their pre-default and renegotiation value, plus interest, which is what they are costing right now. What’s more, it would also put Paul Singer’s hedge fund in a weaker negotiating position, as he wouldn’t have the threat of a new default hanging over Argentina’s neck to bully the country into paying him in full.
Singer’s lawyers know this, which is why they wrote this infuriated response to Argentina’s decision to deposit the money for the holders of the remaining 93% of bonds, in which they managed to spell wrongly the surnames of both Judge Griesa and Economy Minister Axel Kicillof.
It would all be an exciting, funny, financial thriller if it wasn’t for the fact that the destiny of lots of ordinary people depends on its outcome. Managers and CEOs in Argentina are already firing employees citing the negative impact of the increased risk of default as a reason. Conversations in the street deal with the courts in New York almost as often as they do about the World Cup in Brazil.
That scene could soon be repeated elsewhere: If Paul Singer wins this battle, it would set a bleak precedent for any sovereign in need to restructure a debt that becomes un-payable. Why would any Greek bondholder accept an agreement with some kind of reduction of capital or interests if he can then sue and get full value?
There’s more to be said on Argentina’s public debt saga: its history is long and damning for many, full of lessons on what’s been wrong with international finance these last four decades. We’ll get back to reconstructing that obscured part of the past and its relation with the future of sovereign debt policies soon. For now, hope the best for Argentina.