“Default is not to pay,” Argentina’s President Cristina Fernández de Kirchner declared last week during a dramatic press conference in Buenos Aires. “Conditions for default are stated in the debt emission, in the contract, and a payment block is not in it.” She was referring to the fact that a Manhattan federal judge named Thomas Griesa issued an order blocking Bank of New York Mellon, the trustee that holds $539 million in funds Argentina deposited for a bond payment due by July 30, from distributing the money to holders of the notes until Argentina settles its dispute with a group of hedge funds. Because the payment was blocked, the country was declared to be in default on its debt, sending the markets into turmoil and triggering approximately $1 billion in credit-default swaps.
An examination of the terms of the bonds, however, suggests that Argentina may have outmaneuvered everyone. There’s a way for the country to escape default and still avoid settling with Paul Singer’s Elliott Management and other hedge funds. All Argentina has to do is drop a couple of checks in the mail.
Most bonds of this nature contain a provision saying that the debtor’s obligation to make a payment is fulfilled once it delivers the money to the trustee for the bondholders, which in this case is Bank of New York Mellon. Argentina has done that, so its argument, at least publicly, is that it’s up to the actual owners of the bonds to get their money from BNY Mellon. If a judge in New York is preventing that, it’s not Argentina’s problem.
It turns out, though, that the bonds Argentina issued in two restructurings in 2005 and 2010 contain an additional provision that says Argentina hasn’t satisfied its obligations until the money reaches the holders, which in this case are the depositaries of the bonds. The depositaries are the next step in the payment chain after Bank of New York Mellon.
Here is the actual language from the bond document:
Notwithstanding anything herein to the contrary, the Republic’s obligation to make payments of principal of and interest on the Securities shall not have been satisfied until such payments are received by the Holders of the Securities.
The depositaries in this case are an affiliate of the Depositary Trust Company for U.S. dollar-denominated bonds, and Euroclear, an affiliate of the European clearing system, for euro bonds. They serve as intermediaries between BNY Mellon and the actual investors. The money hasn’t made it to them. Under these terms and as of this writing, Argentina is definitely in default.
Intriguingly, the bonds contain a little escape hatch that Argentina could use to satisfy its obligations without paying the hedge fund holdouts. Here’s the language from the bonds themselves:
The Republic may, subject to applicable laws and regulations, make payments of principal of and interest on the Securities by mailing, or directing the Trustee to mail, from funds made available by the Republic for such purpose, a check to the person entitled thereto, on or before the due date for the payment at the address that appears on the security register maintained by the Registrar on the applicable record date.
In short, Argentina could cure the “event of default” by cutting a few checks and mailing them to the holders, or depositaries, of the bonds. Argentina would bypass Bank of New York Mellon, which is the subject of Judge Griesa’s order. The judge could still bar the holders from distributing the money, but that wouldn’t prevent Argentina from correctly claiming that it had fulfilled the terms of the bond contract. This would then shift the fight to one between the bond investors and the depositaries; Argentina could argue that it’s completely out of it. The country would have to execute this maneuver before 25 percent of the outstanding bondholders declare that they want immediate and full repayment of their bonds, which they have the right to do because of the default. It would likely take a week or two for that to happen.
The low-tech check-mailing method would be messy, but it would erode the leverage held by Elliott Management and others while still giving Kirchner the grounds to say that Argentina hadn’t defaulted. And Argentina would have the option of announcing a new exchange offer for all of its outstanding bonds, and issue new ones with payments through banks outside of the U.S., beyond the reach of the American court system.
In the meantime, Argentina still seems to be hoping that Judge Griesa blinks and allows the money sitting at Bank of New York Mellon to go through to the investors, which would be the most straightforward outcome. On Aug. 1, Argentina’s securities agency asked the SEC for information about the recently triggered credit-default swaps, suggesting that some of the hedge fund “vultures,” as it refers to them, may have helped drive the country into default to collect on their own CDS contracts. In any event, Elliott and even Judge Griesa may have underestimated Argentina’s resourcefulness.