Argentina | Stealth outperformer but running out of steam

Siobhan Morden | June 18, 2021

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.

Argentina has emerged as a stealth outperformer in the last few months after Minister of the Economy Martin Guzman’s aggressive efforts to normalize creditor relations. Headlines about an International Monetary Fund program have helped the sovereign debt bounce off the lows with increasing conviction that a formal program will get inked at some point late this year or early next year. It is not so much about whether there is an IMF program but rather the quality. Argentina needs an IMF agreement since there is no room for payment of $18 billion in loans next year and no room for pariah status following an IMF default.

The pressure to normalize creditor relations allowed for a bounce off the lows, and Argentina has been top performer over the past weeks. The risks and rewards now are more balanced, with prices off distressed lows but yet still no clarity on the timing and context of an IMF program. The ARGENT’41 has returned to levels seen at the end of 2020 when there was optimism about a moderate policy shift. Next month, the step-up from zero coupons will allow for some marginal current yield for the ARGENT’38s and ARGENT’41s. However, passive returns of 5% to 6.5% are not ideal. The more important risk assessment is the quality of the IMF program that would define the medium-term debt repayment capacity. There has been only marginal improvement in Argentina’s liquidity indicators through the positive shock on commodity prices.  The inward isolation created by a shutdown of capital flows and by USD demand following policy mismanagement creates chronic balance-of-payments stress.  There is yet no path for foreign exchange reserve accumulation sufficient to honor future heavy debt payments.

There has since been a recent pause in momentum ahead of what should be a lengthy waiting period, with no official rhetoric about any fast-track negotiations.  The negotiations to postpone a bulky Paris Club payment was not a sufficient catalyst to finalize IMF negotiations. Argentina now enters the 60-day grace period after the missed payment at the end of May. There was no definitive solution on how to avoid a technical default with perhaps some flexibility to waive punitive fees on a formal extension. The most Argentina seems to offer is goodwill to continue IMF talks. There has been no indication that Argentina would make the $2.4 billion Paris Club payment given heightened election-related political pressures and scarce liquidity necessary for pandemic-related social spending.  We would not rule out some room for disappointment after the grace period expires at the end of July for those hoping for a near-term IMF program or a Paris Club payment.

The realistic timeframe for an IMF program is still after rather than before November midterm elections. The populist rhetoric suggests that Kirchnerismo will dominate through the election cycle with economics subordinated to politics. The latest price action suggests optimism about pragmatic policy after elections.  However, policy risk may persist after elections with larger macro distortions that further complicate IMF negotiations.  The accumulation of foreign exchange and price distortions will argue for shock therapy as opposed to moderation. And that may face resistance under the continuing influence of Kirchnerismo.

There are almost no doubts about an IMF program after elections, but more importantly is the quality of the program.  If it is a “light” IMF program—a political compromise to avoid default—a much weaker economic framework would undermine future debt repayment capacity. For bondholders, much more important than the deferral of IMF loan payments are the underlying conditions and the quality of the economic program as an anchor for medium-term debt sustainability. There is risk for disappointment. And this is the core case for a rotation trade into quasi-sovereigns. The quasi-sovereigns have been relative outperformers so far this year with stronger fundamentals and higher current yield.  The Province of Buenos Aires has been our top pick on impressive 25% to 43% total returns (3/18/2021-6/15/2021) and potential more upside after restructuring in a final phase of discussions.