The Big Idea
Argentina | Support
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. This material does not constitute research.
Consumer and government confidence, approval ratings and domestic financial markets all look constructive for Argentina. A US dollar windfall from tax amnesty and stronger confidence should encouraged more dollar supply from exporters and less dollar demand with subsequent foreign exchange reserve accumulation. Argentina’s fiscal surplus is unique as well as its track record of commitment to pay. “This time is different” is the often-heard phrase. There has already been an impressive rally in the sovereign debt in the fourth quarter. And technicals remain supportive for potential double-digit returns into next year assuming fiscal discipline, economic recovery and dollar stability.
The bullish sentiment on Argentina is palpable across its domestic markets heading into elections next year. Consumer and government confidence surveys are at peak levels, with a surge in approval ratings for President Javier Milei likely to continue into economic recovery next year and continuing low inflation. The foreign exchange remains the anti-inflationary anchor with a temporary surge in dollars allowing for real appreciation in the Argentine peso. Foreign exchange rigidity is not ideal with structurally low foreign currency reserves, but dollar populism remains the political strategy through the election cycle. Strong governability is equally important to sustain political commitment to a multiyear structural adjustment.
Argentina’s fiscal anchor is unique and impressive as the only country in the region with a nominal fiscal surplus. The temporary US dollar windfall from a tax amnesty should provide some breathing room, and fiscal surplus should also restrain external pressures. There has been considerable relief from the US dollar inflows from the tax amnesty, corporate bond issuance and higher structural exports with potential for official creditor flows and market access next year. The ability to re-enter Eurobond markets could provide a virtuous circle of re-financing with much lower rollover risk. The commitment to pay suggests priority status for Eurobonds with a good track record through the liquidity stress earlier this year and prepayment into next year.
This has all driven a significant rally in the fourth quarter with Eurobond yields now below 12% across the curve. This far exceeds our initial target for 14% yields from last year based on expectations of recovery back to the initial exit yield after restructuring and to the low end of a distressed 14% to 16%. Now with yields below 12%, it’s hard to rationalize much lower yields. There is a structural mismatch between the stock of US dollar assets (foreign exchange reserves) and US dollar liabilities (US dollar debt) and a multi-year adjustment process ahead to improve metrics back to the ‘B’ rating category. However, there are a few supportive technical factors:
- There are few if any other high yield options—Ecuador is complicated ahead of elections, Bahamas and El Salvador are now below 9% yields
- Reinvestment flows should prove supportive in January as well as New Year risk appetite, and
- The fourth quareter rally was mostly locals with potential follow-through demand from offshore investors
This past year was a “buy anything” strategy, with an average 100% total returns in emerging markets across the curve year-to-date through November. Next year it’s not the same risk-and-return profile, but still there is still potential for double-digit returns either under scenario of passive carry or further curve normalization closer to 10% yields. If we assume a passive projection on 12-months returns, this would translate into low double digits across the curve at 11% to 11.5%. That shifts to 15% to 22% returns on a flat 10% curve of further credit normalization. The curve is still inverted on the shortest tenors, but the longer tenors offer positive convexity.
It’s difficult to discriminate on relative value across the Argentina curve. The shorter tenors should benefit from the Milei commitment to pay. The sinking fund payments, especially the 2030s, could also benefit from the large reinvestment income—$1.35 billion in January—as well as the aggressive 16 points of payments next year. There are several sinking fund bonds—the 2029s, 2030s and 2046s—that may all benefit from reinvestment flows. The 2038s are interesting on their sinking fund schedule starting July 2027 and next to normalize after the 2029s and 2030s if credit risk further improves and the curve bull steepens. If investors are bullish on Milei policy management, then the longer tenors would also benefit from a successful stabilization that would support both upfront and backloaded payments. It’s reasonable to assume that a stronger political mandate will allow for mature phase of stabilization that benefits the entire curve.
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