A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina

Reggie Middleton's picture

In order to assess the impact of sovereign debt restructuring on the
market prices of the sovereign bonds that undergo restructuring (haircut
in the principal amount or maturity extension), we retrieved price data
of the Argentinean bonds that underwent restructuring in 2005. The
sovereign debt restructuring in case of Argentina was a combination of
maturity extension and principal haircut. Argentina defaulted on its
international debt in November 2001 after a failed attempt to
restructure the debt. The markets priced in the risk of a substantial
haircut around this time and the bond prices plummeted sharply. We at
BoomBustBlog are in the habit of taking market prices seriously, and
have factored historical market reactions into our analysis in
calculating prospective price action in distressed and soon to be
Sovereign debt. Before moving on, it is highly recommended
that readers review our haircut analysis for Greece (“With
the Euro Disintegrating, You Can Calculate Your Haircuts Here”
and our more likely to occur restructuring analysis for the same (What is the Most Likely Scenario in the Greek Debt
Fiasco? Restructuring Via Extension of Maturity Dates

The restructuring of the Argentina debt in default was occurred in
2005 when the government offered new bonds in exchange of old
securities. The government gave the option of either accepting A) a par
bond with no haircut in the principal amount but substantially lower
coupon and longer maturity or accept B) a discount bond with a haircut
in principal amount to the extent of 66.3% but relatively better coupon
rate and shorter maturity than in case of Par bond. If the bondholder
accepted A), for each unit of bond, one unit of Par bond will be
allotted. If the bondholder accepted B), for each unit of bond, 0.33
unit of Discount Bond will be allotted. The loss to the creditor, which
is decline in the NPV of the cash flows, was nearly the same in both
cases as the lower principal amount in Option B was offset by better
coupon rate and shorter maturity. The price of the par bond in the
market and the price of the discount bond multiplied by the exchange
ratio (real price to the bond holder) were largely the same when they
were listed in the market in 2005.

The IMF estimated the average haircut (decline in the net present
value of the bond) was on an average 75% and the market priced in most
of this haircut before the actual restructuring in Feb 2005. The prices
of the bond in default declined nearly 65% between Feb 2001 and Feb

One should keep these figures in mind,
for in the blog post “How Greece Killed Its
Own Banks!
I ran through a much, much more
optimistic scenario that wiped out ALL of the equity of the big Greek
banks. Remember, the Greek government stuffed these banks to the gills
with Greek bonds in order to created the perception of a market for
them. As excerpeted…

Well, the answer is…. Insolvency! The
gorging on quickly to be devalued debt was the absolutely last thing
the Greek banks needed as they were suffering from a classic run on the
bank due to deposits being pulled out at a record pace. So assuming
the aforementioned drain on liquidity from a bank run (mitigated in
part or in full by support from the ECB), imagine what happens when a
very significant portion of your bond portfolio performs as follows
(please note that these numbers were drawn before the bond market route
of the 27th)…


The same hypothetical leveraged
positions expressed as a percentage gain or loss…


When I first started writing this
post this morning, the only other bond markets getting hit were
Portugal’s. After the aforementioned downgraded, I would assume we can
expect significantly more activity. As you can, those holding these
bonds on a leveraged basis (basically any bank that holds the bonds)
has gotten literally toasted. We have discovered several entities that
are flushed with sovereign debt and I am turning significantly more
bearish against them. Subscribers, please reference the following:

To date, my work both free and
particularly the subscription work, has shown significant returns. I am
quite confident that the thesis behind the Pan-European Sovereign Debt Crisis research is still quite
valid and has a very long run ahead of it.  Let’s look at one of the
main Greek bank shorts that we went bearish on in January:

nbg since research

Now, referencing the bond price charts below as well as the
spreadsheet data containing sovereign debt restructuring in Argentina,
we get…

Price of the bond that went under restructuring and was exchanged for
the Par bond in 2005


Price of the bond that went under restructuring and was exchanged for
the Discount bond


With this quick historical primer still fresh in our heads, let’s
revisit our Greek, Spanish, and Italian banking analyses (the
green sidebar to the right), many of which are trying to push the 400%
mark in terms of returns if one purchased OTM options at the time of the
research release. It may be worthwhile to review the Sovereign debt exposure of Insurers and Reinsurers
as well.

We may very well get a bear market rally or two that may pop prices,
but from a fundamental perspective, I do not see how significantly more
pain is not to come out of this debt fiasco. The only question is who’s
next. We feel we have answered that question is sufficient detail
through our Sovereign Contagion Model. Thus far, it has
been right on the money for 5 months straight!

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rocky89's picture

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carbonmutant's picture

Orderly insolvency

pros's picture

This is all explained in Roubini's Bailouts or Bailins-

free pdf:


quite straightforward

a "bailin" is a restructuring where bondholders take a hit

a "bailout" is where somebody like the taxpayers (or taxpayers via the IMF) bail out the bondholders

There is extensive treatment of the Argentina case which verifies what Middleton is saying....

the Argentina case is the correct precedent to study in order to understand the present Euro crisis

Panafrican Funktron Robot's picture

I ultimately don't think a default of any of the EU currency participating countries is actually going to happen, I think the real ECB/Fed strategy is to bring the euro to parity (or even lower if necessary).  Euro/Dollar parity is neither unprecedented nor particularly undesirable.  I have a feeling this opinion might get junked/flamed, but if you just follow the numbers (and/or analyze the cost/benefit), it seems pretty obvious what's going on. 

Tic tock's picture

Right, but the whole point is that what is getting flushed now isn't worth rescueing. Sure, it's painful. But what is the point of capital efficiency at the higher levels except to influence 'wage' expectation. Flows of dollars have been crossing the globe for any reason you can name, often with thin economic rationale. Productivity of capital has gone exponential and investment has been due to inflation-driven demand. Now were caught between an artificially high price-level, chronic underemployment and strong overcapacity. The financial system as it stood is entirely structured around generating Return over Investment.. as incentive for getting dealmakers to create value. 

But things are different now, demographically we have housing stock that needs upgrading and maintainance, not expansion. Applying the same criteria to state-service related loans as to commercial, depends on both taking water from the same source- but if industrial expansion is lower than moderate (depending onwhere you are) then there is no strict reason why competition for capital should be forced. In a nutshell, the information economy allows for more directed value-creation which should then also be comparitively cheaper to fund.   

the grateful unemployed's picture

of course if the ECB holds those devalued Greek bonds the damage is limited to some balance sheet gimmicks (the risk gets spread around), those Argentine bonds were held largely by retail investors, Italians, widows and orphans. the real lesson i get from the Argentine problem, is that the (Merval) stock market recovered most of its losses, and if you took what little bond money you had left and bought stocks, you were made whole again. if i recall, the IMF wasn't welcomed in the Argentine mess, and some outside (regional) investors came in and bought stock. however in a synchronized global meltdown there won't be any deep pockets to come to the rescue, and while i know we're talking Greece here, we're also talking ultimately UST.

Reggie Middleton's picture

Keep in mind that Argentina was relatively isolated in comparison to this current malaise. the ECB will have to sweep Greece, Portugal and probably Spain, Ireland and maybe even Italy under that same rug. you'll run out of rug before you get to Spain.

the grateful unemployed's picture

you look at what happened to their stock market and what happened to their bond market, and you wonder if UST investors are laboring under serious delusions about the safety of their principle. i am looking for signs now that Wall Street is going to revalue stock assets, as they are nimble enough to hedge just about anything, and make a profit. a concerted effort to take the market lower would break the back of the Fed, should they be foolish enough to put QEII out there. what we could be seeing is the PPT going head to head with the institutions they use to put a bid under the market. and if the market crashes bonds won't be far behind.