After 39-Point Yield Surge, Argentina Bonds a Buy to Peso Bears

  • Dollar-linked bonds' yields turned positive after devaluation
  • Notes' structure protects holders from drop in local currency

Surging yields on Argentina’s dollar-linked bonds are a buying opportunity for investors convinced the local currency has further to fall.

The peso-denominated notes, which pay in dollars upon maturity, saw yields go as low as negative 29 percent last year as investors bid up assets that provided protection from a plunging peso. After newly elected President Mauricio Macri fulfilled a campaign pledge to let the currency trade freely this month, sparking a 27 percent drop, yields shot up to more than 10 percent as some investors concluded the peso was trading at fair value.

For Argentina to become competitive, the currency needs to weaken as much as 25 percent by the end of 2016, according to Alejo Costa, the head of research at brokerage Puento Hnos Sociedad de Bolsa SA. Years of support from the central bank kept the peso artificially strong, stifling growth and discouraging foreign investment in a country that suffered from a lack of dollars and lawsuits that prevented it from borrowing overseas.

“The exchange rate is relatively low and the dollar is cheap currently,” said Costa, who recommends the bonds due in 2016 for local investors. “It’s an attractive alternative with a significant premium, considering it’s an asset that isn’t purchased in dollars.”

Macri’s end to currency controls is part of a broader economic overhaul aimed at luring capital to a country that suffers from inflation estimated at about 30 percent, anemic growth and a lack of business confidence. He has also pledged to settle with creditors that sued the country for full repayment after its 2001 default and eliminated taxes that discouraged farmers from selling their crops overseas.

While the peso plunged as much as 30 percent on its first day of free trading, it recovered some of those losses and now trades just 25 percent weaker at about 13 per dollar. Traders of non-deliverable forwards in New York, contracts that are used to speculate on foreign-exchange levels, see Argentina’s peso trading at 18 per dollar in 12 months.

Since the peso was allowed to float on Dec. 17, the yield in pesos on dollar-linked bonds due in 2016 rose to 10.7 percent from negative 29 percent on Sept. 12, according to data compiled by Puente. That compares with a yield of just 6.6 percent on Argentina’s defaulted overseas dollar-denominated bonds due in 2033.

The peso is stronger than it otherwise would be because of temporary effects related to the end of currency controls, according to Leo Chialva, a partner at Delphos Investment in Buenos Aires. Argentina’s currency gained as farmers, who had withheld crops in storage bags as they waited for a better exchange rate, sold their goods while importers waited to access the market until new rules governing their purchases are implemented.

“The bonds are likely going to be less volatile now that the devaluation happened," said Mariano Tavelli, president of Buenos Aires-based brokerage Tavelli & Co. “We see them as a good bet for those looking to hedge against fluctuations in the dollar.”

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