By Cargill Risk Management
Argentina is home to the third-largest economy in Latin America with a GDP of nearly 550 billion dollars. While primarily driven by its agricultural and livestock industries, Argentina is growing in other sectors including energy, automotive and biotechnology. In 2001, Argentina declared a sovereign debt default of nearly $85 billion, the largest in history at the time. Not only did the default trigger a currency crisis for Argentina, but it also triggered a confidence crisis for business and investment. The following 15 years were plagued by excessive inflation, rigid policies, and the country was virtually shut off from global markets.
Now in 2016, Argentina is pursuing a transformation that has many companies revaluating business opportunities in the country. As a result, treasury managers are tasked with assessing challenges to manage local currency risk. The Peso is still not fully convertible and daily trading volumes are light compared to other Latin American currencies. According to the BIS Triennial Survey released in September, the net turnover in the Argentine Peso averaged $1.9 billion per day compared to nearly $8 billion in the Colombian Peso. Beyond liquidity concerns, the options market is almost non-existent and the steep interest rate differentials make forwards expensive
Over the past twelve months, five related events may create a foundation for stability to address the challenges of foreign exchange for risk managers.
- Election of a New President
In November 2015, Mauricio Macri, former Mayor of Buenos Aires, was elected president over favorite Daniel Scioli. Macri, a center right politician, replaced the populist Kirchner regime which led Argentina for the previous 12 years. Macri laid out an aggressive pro-market reform plan to address rampant inflation, repair deficits, and restore confidence. Specific to the agricultural sector, Macri materially changed the export tax structure for a number of products in an attempt to boost production and bring Argentina back to the world grain markets.
- Increased Currency Flexibility
As part of Macri’s overhaul, he appointed former central banker and J.P. Morgan economist Alfonso Prat–Gay as Minister of Finance. Restrictions on the currency were loosened and the Peso devalued by more than 30% against the US Dollar. While the devaluation led to meaningful foreign exchange losses for multinational corporations, this step forward represented something much more significant.
- Settlement of Outstanding Debts
For 15 years following the default, Argentina was tied up in legal battles over repayment of the debt. In the spring of 2016, investors and the Macri administration finally struck a deal. This deal allowed Argentina to restructure the debt, while also repaying approximately $3 billion in past due interest. Several rating agencies upgraded Argentina on the news.
- Return to the Global Bond Market
Following its debt repayments, Argentina re-entered the global bond market with issuances across several maturities which help further develop its interest rate curve. In addition, Argentina’s return to the bond market brought a return of their sovereign CDS, providing institutional investors an opportunity to insure their exposure and quantify risk sentiment. According to Bloomberg, the Argentina Government Bond CDS trades at approximately a 110 basis point premium relative to Brazil through the first part of November.
- Argentina Business and Investment Forum
President Macri hosted an “Argentina Business and Investment” forum (LIhttps://www.argentinaforum2016.com/) in September 2016. Buenos Aires welcomed more than 3,000 leaders from global corporations, investment firms, and governments in an effort to “bring Argentina back to the world stage”. The event highlighted the economic reforms and ways to make Argentina an attractive destination for business and investment. In a press release following the first plenary session, Dow Chemical CEO Andrew Liveris commented, “There was too much red tape in this country for too long. Now there is red carpet instead.”
Managing emerging market currency risk can be difficult for a variety of reasons, convertibility, volatility and liquidity to name just a few. For Argentina, the tools available to manage financial risk over the longer horizon should be reevaluated given their evolving political and economic conditions.