On June 20, MSCI decided not to include Argentina in its widely-tracked Emerging Markets Index – an aspect outlined amidst the broader framework of stock market performance in the previous article.
But a day earlier, the country did something arguably much more drastic: it issued a 100-year bond. And markets are still talking about its reasoning and implications.
The issuance made it only the second country in Latin America – after Mexico in 2010 – to go so long in duration.
There are major differences between the two though with a prominent one being sovereign ratings. Though Argentina was upgraded by S&P Global Ratings to B from B- in April this year, it is seven notches lower the Mexico, which is rated as BBB+.
The $2.75 billion bond, which will mature in 2117, had an exceptionally strong order book of $9.75 billion. The coupon set was 7.125% with the yield a shade under 8%.
Markets were intrigued by the issuance, to say the least, with several questioning the ability of the country to payback its debt given its torrid history of defaults.
A brief background
Since independence in 1816, Argentina has defaulted on its debt eight times with five instances taking place in the past century.
Its most spectacular default in recent memory was at the turn of the millennium in 2001 when it couldn’t payback $95 billion in debt – a record at that point. Holders of those bonds had received about 30 cents on every dollar of debt they had held.
More recently, it had high profile disagreements on bond payments to hedge fund Elliott Management – an issue that was settled in 2016.
Irrational exuberance?
Several market participants have pointed out that for a country which was locked out of financial markets since an economic collapse in 2001 through April 2016, to find an appetite for a century bond is bereft of rationality.
As far as investors are concerned, the prime interest was the high yields being offered by the bond in a yield-starved world. Investors have piled in on emerging market debt as these bonds have far outperformed their US counterparts, and locking in a 7.9% yield at this time was an extremely attractive proposition.
For Argentina, given its economic state and reputation, the yields were not all that high, making it a win-win for both the country as well as its investors.
But what about the risks?
Argentina had some room for a bond issuance as its debt, at 54% of gross domestic product (GDP), is still lower than Brazil and Mexico.
What needs to be monitored, though, is the duration for which the country will continue to finance its deficit via this mode, coupled with the size of issuance in foreign currency.
Argentina has already increased its overall foreign currency bond issuance target for the year to $12.75 billion from an estimated $7 million earlier. The 100-year issuance places current outstanding foreign currency bond issuance at $10.2 billion, leaving room for $2.6 billion in euro or Swiss franc issuance during the rest of the year.
Cashing in on investor hunger for yield may seem opportunistic, but if used appropriately, it can help Argentina get back on its feet and make the bonds valuable for existing investors as the economy bounces back, supported by economic policies.
There is a slight concerns with this strategy, though. Let’s look at that in the next article.
