Uncategorized

Argentina | Trapped

| October 2, 2020

This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.

The liquidity position at Argentina’s central bank is quickly morphing into a balance-of-payment crisis. The last few days have seen an acceleration of US dollar bank deposit outflows as well as central bank dollar sales. The central bank has again announced more to defend diminishing liquid foreign exchange reserves, including a reduction in export taxes, faster foreign exchange depreciation and indirect foreign exchange intervention by selling US Treasury bills and dollar-denominated sovereign bonds. The measures may become increasingly ineffective. The private sector may hesitate to supply dollars into unsustainable policies while policymakers remain reluctant to adopt orthodox measures that would weigh on near-term growth. There is no easy path, especially for policymakers that are more ideological than pragmatic.

The Eurobond price action on October 1 confirmed the pessimism. Investors could sell into strength and drive prices lower by 1 point to 1.5 points, but that came after a 3-point bounce earlier in the week. The crux of the problem is almost zero stock of dollar reserve assets, an external deficit in dollar cash flows and a huge $150 billion or more stock of future dollar debt liabilities.  The external deficit has to quickly reverse to surplus for Argentina to accumulate sufficient reserves over the next few years to repay bondholders.  It may have to get worse before it gets better, with a failure of heterodox polices that eventually forces orthodox policy management.  This suggests that bond prices are vulnerable and trapped at still low levels, and bondholders remain motivated to sell into strength.

The foreign exchange measures have not provided any breathing room and have only accelerated dollar demand.  The central bank sold $539 million since announcing the measures on September 15, the dollar bank deposit withdrawals have escalated to $200 million a day and the Blue Chip foreign exchange rate remains at its widest divergence ever from the official foreign exchange rate.

The new round of measures announced October 1 includes a 3% temporary reduction on soy export taxes, tax breaks for other industrial exports, higher foreign exchange volatility (faster pace of daily depreciation of 1%), higher repo rates and a calendar for US dollar Treasury issuance and resale of central bank holdings of sovereign US dollar bonds. The central bank also confirmed that there were no plans to activate the China swap line.

This latest round of measures appear less draconian, with a more cooperative approach to encourage dollar inflows as opposed to discourage dollar outflows.  However, a worsening crisis of confidence typically requires bolder counter orthodox measures as opposed to ad hoc measures.

China is not typically a lender of last resort while difficult International Monetary Fund negotiations may continue into next year with low prospects for new funding or conditional on an orthodox economic program.  Argentina’s inward isolationist strategy and heterodox policy management has deterred dollar capital inflows, and access to external credit has decreased. Although the latest measures are somewhat more coherent, it will be difficult to encourage exporters to relinquish their supply. There is increasing threat of a maxi-foreign exchange devaluation. And indirect foreign exchange intervention through US dollar Treasury bill auctions or even secondary sale of sovereign USD bonds may also meet limited demand if viewed as an ineffective hedge on higher USD debt repayment risks. The hike in the repo rate from 19% to 24% seems pragmatic; however, the subsequent regulation for banks to reduce their LELIQ positions seems contradictory.

The slow economic recovery from a deep economic recession probably further delays any shift to more orthodox policy management, such as the standard approach to balance-of-payments stress through a larger foreign exchange devaluation and tighter monetary and fiscal policies.  If this latest round of foreign exchange measures prove ineffective, then the central bank faces a decreasing margin of policy flexibility to counter the balance of payment stress.  It is important to monitor the daily stress indicators of the Blue Chip FX rate, daily central bank dollar purchases and other signs of whether the central bank can shift the balance-of-payment deficit to surplus.  The path is clear.  The balance of payments needs to quickly revert to surplus to capture export dollars for future debt repayment. Meanwhile, Eurobonds remain vulnerable to underperformance with zero carry and a still uncertain future debt repayment capacity that restricts price appreciation.

admin
john.killian@santander.us
1 (646) 776-7714

This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.

Important Disclaimers

Copyright © 2023 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.

In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.

The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.

In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.

Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.

The Library

Search Articles