Forwarded from Nestor (bond market and Argentina)

Louis Proyect lnp3 at
Fri Jun 1 09:30:31 MDT 2001

BusinessWeek / May 28, 2001, p. 56



The risk of default is killing the region's debt market

Latin American borrowers are springing into action after months of
hibernation. Since the start of May, the governments of Mexico, Brazil, and
Colombia have raised a combined $2.4 billion via offerings of dollar- and
eurodenominated bonds. Corporations are also getting in on the act:
Petrobras, the Brazilian oil company, and Telifonos de Mexico, the Mexican
telecom giant, recently sold $950 million worth of bonds between them.
"Latin issuers have become extremely intelligent," says Amer Bisat of
Morgan Stanley Asset Management in New York. "They go for windows in the
market as soon as they see them."

This Latin boomlet is all the more remarkable given investors' deep fears
that Argentina might default on its $128 billion public debt. The unease is
reflected in total returns on Latin bonds, which have declined more than 2%
this year, while those of non-Latin bonds are up nearly 11%, according to
J.P. Morgan & Co.'s Emerging Market Bond Index.

So is the door finally opening for Latin borrowers? Hardly. "Unless you're
the bluest of blue chips, access is absolutely nada," says Chris Taylor, a
high-yield strategist at ING Barings in New York. What the recent debt
issues show is some slick financial engineering against a background that's
bleak and getting bleaker.

RISK INSURANCE. Take the May 2 Petrobras $450 bond issue. The seven-year
bond received a Baa1 investment-grade rating from Moody's Investors
Service, which is six notches higher than the B1 rating Moody's gives the
Brazilian government. How come? Petrobras took out political risk insurance
on the bond from Zurich North America in Schaumburg, Illinois. That means
bondholders are guaranteed their payments even in the event of catastrophe,
such as a government ban on overseas cash transfers. Petrobras won't say
how much it paid for the insurance, but it was probably well worth it. Its
paper was priced at 475 basis points over seven-year U. S. Treasury bills.
By comparison, Brazilian government debt of equal maturity was trading at
664 basis points above U.S. Treasuries on the day of issue.

Governments, too, are having to jump through hoops to raise cash. The
Brazilian government wants to sell long bonds. But investors are reluctant
to take on long-term risk given the uncertainties over the economy. So
Brasilia issued a 50-month bond that can later be swapped for a 20-year
bond. Bisat explains: "They said: 'We know you're afraid, so we'll give you
defensive short-term paper. But if Brazil does well, you can have long-term
paper."' But even with this option, Brazil had to offer a return of 648
basis points above U.S. T-bills.

BEAR RAID? Bond buyers have good reason to demand extra security. An
Argentine default would wreak heavy collateral damage on other Latin
borrowers. Investors are desperately hoping the specter of default will
just fade away. Under a deal now in the works, Argentine bondholders may
soon be able to trade as much as $20 billion in short-term paper for
longer-term bonds. By stretching out the debt service schedule, Argentine
authorities are hoping to buy much needed breathing room.

But even if Economy Minister Domingo Cavallo pulls off a successful swap,
Argentina is not home free. Walter Molano, head of Latin American research
at BCP Securities Inc. in Greenwich, Conn., believes the only reason hedge
funds aren't shorting Argentine bonds is that they fear the paper will
disappear as a result of the swap once the swap is done, Molano says, "the
talk on trading desks is that market players will attack Argentina
viciously." If a new bear raid is launched on Argentine debt, other Latin
papers will get hammered, too.

Indeed, the thinking in some investment circles is that, hard as it may
try. Argentina may not be able to avert a default. After nearly three years
of recession, the economy is showing no signs of life. "It's time to
encourage them to default," Molano says.

On the surface, that may seem like a rotten idea: An Argentine debt default
would keep the international capital markets closed to the whole region for
some time. But don't let the recent wave of bond issues fool you: For most
Latin borrowers, they already are.

By Jonathan Wheatley in Sao Paulo.

Louis Proyect
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