The ongoing feud between Puerto Rico and its mostly hedge fund creditors is promptly shaping up as the next "Argentina", where "vulture investors" may well end up holding the island commonwealth hostage for years, during which time, however, they won't get paid.
This is shaping up as the latest development in the saga in which earlier today Puerto Rico’s Senate approved a bill calling for a moratorium on a wide range of debt payments, including general-obligation bonds, through January 2017 in what Bloomberg dubbed "the latest escalation of the Caribbean island’s fiscal crisis."
The measure, passed around 2:30 a.m. local time, would allow Governor Alejandro Garcia Padilla to suspend payments on debt backed by the government, the island’s Government Development Bank and other public agencies, according to a copy of the legislation obtained by Bloomberg. That includes the Sales Tax Financing Corp., known by its Spanish acronym Cofina. A default on those obligations would be a first for Puerto Rico, which so far has only failed to pay on bonds backed by legislative appropriation and rum taxes.
The bill has yet to be enacted: it remains to be reviewed by the island’s House of Representatives on Tuesday after stalling there previously. It’s the culmination of months of posturing by commonwealth officials and bondholders since Garcia Padilla declared that Puerto Rico’s debts were unpayable in June 2015. It reflects the governor’s long-held position that the island can’t continue to pay creditors on time - even those holding constitutionally guaranteed securities - while still providing essential services to residents.
Today's latest gambit follows a February proposal by Puerto Rico which to repay creditors (who are owed a total of $70 billion) to the tune of 54 cents on the dollar, a move which we then dubbed "Puerto Rico's opening salvo in what's likely to be protracted battle to tackle the entire debt burden."
The proposal then looked as follows:
Back then Puerto Rico proposed to offer "growth bonds" designed to make up for the losses. However, the payout on those securities will be tied to the island's economy and as you might recall, things aren't going so well. The following table from Moody's Analytics provided some sense on how valuable these "growth bonds" would be:
As Daniel Henson, an analyst at Height Securities warned then, "Puerto Rico debt restructuring proposal isn’t credible. The targets are “wholly unrealistic,” and require creditors to trust Puerto Rico will make good faith effort to repay them."
Fast forward to today's escalation when the same Daniel Henson chimes in again:“We continue to believe there are political constraints on the consummation of a debt moratorium that impairs GO bonds, and, indeed, such an arrangement would appear to us to be wildly out of step with any reading of the local constitution. The reality is that Puerto Rico is an American jurisdiction, and its laws are not at the whims of political appetite.”
However, as of 2:30am local they are, if only for the time being.
As Bloomberg details, non-constitutionally protected bond payments would be suspended immediately under the proposal, while those backed by the constitution would be halted starting July 1, when Puerto Rico owes $805 million on its general obligations. The bill would also prevent creditors from suing the commonwealth for defaulting through January 2017, the same as the moratorium period.
The bond market was not enthused: general obligations with an 8% coupon and maturing 2035 traded Tuesday at an average price of 66 cents on the dollar, the lowest since the bonds were first sold in 2014, data compiled by Bloomberg show. The average yield was 12.8 percent.
As is known from previous coverage of the Puerto Rico debt crisis, investors holding general obligations had already been working with island lawmakers, excluding the governor, to come to a consensual plan, Andy Rosenberg, a lawyer at Paul Weiss Rifkind Wharton and Garrison, said in a statement. He represents a group of general-obligation bondholders in their negotiations with Puerto Rico and other creditor groups.
Bloomberg adds that lawmakers are considering separate legislation that would suspend principal payments on general-obligation debt for five years, while still paying interest during that time, according to a House lawmaker who asked for anonymity because the talks are private. The measure wouldn’t reduce the face value of the securities, the person said. Puerto Rico has about $13 billion of general-obligation debt.
There is more.
The legislation also addresses the GDB, which is facing speculation that it’ll lapse into insolvency. The bank’s receivership process, liquidity and reserve requirements and payment obligations would be suspended indefinitely, according to Hanson. The bill seeks to split the entity into a “good bank” and “bad bank,” he said.
Hedge funds holding debt in the GDB sued on Monday to stop the bank from returning deposits to local government agencies as it faces a growing cash shortage. The funds, which include affiliates of Brigade Capital Management, Claren Road Asset Management and Solus Alternative Asset Management, accused the bank of seeking to “prop up” local agencies at the expense of other creditors. The GDB has a $422 million debt-service payment due May 1.
The Government Development Bank serves the dual purpose of providing financial support to local governments and acting as a financial adviser to the commonwealth. The funds, which say they hold a “substantial amount” of almost $3.75 billion in the bank’s outstanding debt, blamed the entity’s deteriorating condition on a “hopeless conflict” between loyalties to Puerto Rico and to creditors.
In short: the situation is getting messier by the day with a compromise deal now seemingly impossible - absent a US government bailout - and meanwhile Puerto Rico's money is running out, which will ultimately be the decisive catalyst that leads to the next step in the crisis.
Puerto Rico's bondholders responded moments ago, and they are not happy:
"The governor has spent the last nine months rebuffing all overtures by the GO holders,” Rosenberg said in the statement. The deal proposed by investors “would give Puerto Rico additional liquidity by, among other things, deferring substantial principal payments. Most importantly, this consensual deal avoids a July 1 default on constitutional debt.”