Hello and welcome to the Download. I’m your host, Dave Richardson, and we have a very special guest on the podcast today. And an incredibly interesting topic that I think will really help you as investors understand in a way that maybe you’ve never seen explained before, the functioning of fixed income markets around the world, and the impact and involvement that an active investment manager can have inside one of these situations. So we are really pleased to be joined by Polina Kurdyavko, who is a partner and Head of Emerging Markets, Senior Portfolio Manager at BlueBay Asset Management in London. Polina, it is really great to have you on today.
Dave, thank you so much. It’s my pleasure to be here.
What we’re going to focus on today is the situation in Argentina. Argentina defaulted in May. It’s not an unusual occurrence, I take it, for Argentina to default, historically. But could you give us some background on what happened this time out with Argentina and this particular default?
As you said, Argentina is a country that some might call one of the very few serial defaulters in the emerging market credit world. And it’s not the first time the country has had to re-profile its debt. As a country, it has structural imbalances that go even beyond the Kirchner regime. Over the last 20 years — I would say for almost 100 years — Argentina struggled to implement structural reforms that would open the door for FDI. And actually only portfolio flow or some would call “hot money” were funding the country growth, historically. As a result, in 2019, when it became clear that the market-friendly government under administration is unlikely to win the elections, portfolio investors became more concerned with Argentina’s future, and the risk of poor policy mix going forward. Hence, they were less willing to continue financing the country. As a result, Argentina was faced with a liquidity driven default and needed to re-profile its debt.
Many investors would look at this situation and say, “The bonds go to zero. This is something you want to avoid from an investment perspective.” But you and the BlueBay team were able in some way to take advantage and help the situation out and deliver a great result for your investors. How did you approach this situation, Polina?
Well, firstly, I would say it’s very rare that you have close to zero recovery in emerging market debt. Historically, if you look at the average recovery and defaulted sovereign debt in the emerging market credit, it has been on average 50 cents on the dollar. In other words, if you have a par claim, after default, you were able to recover 50 cents or 50% of your claim. However, Argentina in particular has a rather poor track record of negotiating with investors, which resulted in recovery close to 30 cents on the dollar during the last debt re-profiling that we’ve seen in early 2000 to 2001. This time around, however, even though one could argue that the government was largely the same — again it’s a pro-Kirchner administration — the negotiation between the government and the creditors was quite different. Despite ideological differences between bond holders or creditors more broadly and the current government, we believe even the government with its ideology realized that they had to find a market-friendly solution. In fact, we had two restructurings that were happening in parallel -- Ecuador and Argentina. Both, you could say, are serial defaulters. However, what helped is firstly, Ecuador was conducting a very market-friendly negotiation, which set an example to Argentina of how you can achieve a much better and much quicker result. Secondly, when we looked at the Argentine bonds, we saw that the bonds were trading in the low 30s. And we felt that actually the recoveries, at least at historical average, were achievable. So we’ve added substantially to our exposure in low 30s. And then we actively engaged with Argentina’s government and we were part of the bondholder group leading the restructuring conversations with the government. In fact, we achieved even higher recovery than what we expected because the outcome of the negotiations was the recovery in high 50s, if you assume the exits yield of 10%. To me, that shows there are probably three main takeaways for investors and credit. Firstly, the fact that historical recoveries, even though they were already high this time around, we were able to improve it even from on already high level. Secondly, even stories like serial defaulters like Argentina that had a very poor track record — I would say one of the poorest globally in negotiation with investors —this time around realized that the market friendly solution is the only way forward, which meant that the restructuring talks did not last ten years like it did last time, but was only a year or so. And last but not least, the examples of Argentina and Ecuador demonstrated to the bondholder communities that this is a good template to use going forward. I would say that should be positive for the asset class as a whole, because if that’s the recovery that you can achieve — and by the way, let me remind you that if you look at US high yield asset class, the average recovery this time around are closer to 30 cents on the dollar — if you can achieve almost double the recovery than US high yield credit and have lower historical default rate, that should bring more investors into the asset class.
Yes. And as we’ve been highlighting on this podcast and through other written communications that we provide, particularly for Canadian investors who would be the primary audience for this podcast, Polina, it’s an asset class that many Canadians don’t hold. It can be a very effective diversifier against your core fixed income holdings as a Canadian investor. For the health of the sector overall, the story you’re telling is one that I think should reassure Canadians that this is an asset class that they can be comfortable holding in their portfolio. And if you’ve got the right investment managers involved in it, with the right global reputation and expertise to manage through these situations, this is an important asset class for you to hold.
Absolutely. And in fact, I would also add that another concern that often fixed income investors have can be addressed, i.e. liquidity. If you are an investor in US or European high yield credit, when credits go in default, often liquidity drops. It’s not the case in the sovereign debt. Argentina having 60 billion [dollars] of debt outstanding, not leading the index as per the J.P. Morgan index rules, means that even if you go through restructuring, your daily liquidity of the portfolio is not impaired by taking a position that is trading at 40 or 30 cents on the dollar.
Excellent. Well, Polina, thank you very much. This is a really interesting story. And again, I think a perspective that not many investors have heard. They haven’t had an explanation of how one of these situations plays out and the different ways it can play out, along with all of the historical context. So, Polina, thank you very much for your time today. It was great catching up, and we’d love to have you on again sometime in the future.
It has been a pleasure. Thank you very much for having me.