Paul Singer / getty
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/By Clive Minchom/
Singer’s Vulture Funds Buy-up Of Argentine Distressed Debt
A group of private investment funds, led by the combative fund manager Paul Singer with his US$20 billion hedge fund Elliott Management, and Aurelius Capital Management, purchased Argentine defaulted debt securities over a long period. On Friday a United Sates federal appeals court upheld a massive US$1.33 billion judgment they won late last year . The outcome of the case, if not successfully challenged at the United States Supreme Court where it may yet end up, may now have substantial effects on future international bond issuers, on parts of the banking system as well and, certainly, on additional struggling emerging nations who may in the future also not be able to pay their bills on time.
After buying up their distressed debt the hedge funds went after the Argentine government in court to try and get paid par value for their bonds, on the basis that bondholders had been fraudulently denied payment through a forced restructuring. After several years of litigation, last Fall a District Court judge in New York, Judge Thomas Griesa for the Southern District of New York, ruled in the hedge funds favour, and a three-judge panel of the United States Court of Appeals for the Second Circuit in New York last week has now completely upheld his decision. Earlier in February it had already also upheld the District Court’s decision but then sent it back to clarify certain practical issues flowing from the ruling.
Second Circuit Court of Appeals
Thurgood Marshall Courthouse / source Wikipedia
The background to the case is quite complicated, but here is a summary of what has been involved.
Argentina Defaulted On Its Sovereign Debt In 2001
Argentina defaulted on its sovereign debt in 2001 when it was, essentially, bankrupt and could no longer pay its bills. However countries do not go bankrupt in quite the same way as private corporations or individuals do, and at such times they usually enter into what are known as debt moratoria, seeking to renegotiate the terms of their loans and to reschedule their payments as best they can. At such times creditor countries, official multilateral institutions and private investors who have purchased their debt, may have to take significant haircuts as the price of getting such a country back on its feet. Frequently this outcome is disguised by creating new bonds to pay back the old ones, pushing out their maturities many years in the process, as occurred with the so-called Brady Bonds which were issued by the hundreds of billions of dollars when Latin America got into terrible difficulty in the late nineteen eighties. A major sovereign default can be just as embarrassing for the countries and official institutions holding their debt as for the defaulting nation itself, so use of official fudge factors here can often be the norm rather than the exception.
While it is rarely stated quite so baldly, it is also the export earning potential of any such country in difficulty that determines the harshness, or otherwise, of the likely terms that will be offered to it if it should default – the more a country can still earn cash payments with its own exports, the stronger its bargaining position in a restructuring is going to be.
When Argentina defaulted in December 2001, its President Cristina Fernández de Kirchner took a very aggressive position and declared a “temporary moratorium” on principal and interest payments on more than US$80 billion of its public external debt. Every year since then, Argentina has passed legislation renewing the original moratorium and has made no principal or interest payments at all on the defaulted debt in the intervening eleven and a half years.
Argentine President Kirchner / Wikipedia
Pari Passu Clause Means Equal Treatment For All
Singer and his co-investors in the case before the New York court estimated that, collectively, their own unpaid principal and pre-judgment interest amounts on their defaulted debt totaled approximately US$1.33 billion. The background is as follows:
In 1994, Argentina began issuing debt securities pursuant to a Fiscal Agency Agreement (FAA Bonds). A number of individual plaintiffs-appellees in the New York suit bought FAA Bonds starting around December 1998. The remaining plaintiffs-appellees, hedge funds and other distressed asset investors, purchased FAA Bonds on the secondary market at various times and as recently as June 2010.1 The coupon rates on the FAA Bonds ranged from 9.75% to 15.5%, and the dates of maturity ranged from April 2005 to September 2031.
These bonds had been issued under loan agreements governed by New York law, which is why Singer’s case ultimately ended up in a New York court room. Countries frequently offer such international bond offerings under the umbrella of New York law, or alternately UK law, as way to get a cheaper interest rate on the theory that investors will feel safer that way – and until now they have of course been right. In this particular case one of the key paragraphs of the agreements governing these Argentine FAA Bonds, is known in the legal boilerplate production trade by the Latin phrase as the “Pari Passu Clause” (which in plain English simply means equality of treatment) contains just two sentences that provide as follows:
The Securities will constitute . . . direct, unconditional, unsecured and unsubordinated obligations of the Republic (of Argentina) and shall at all times rank pari passu without any preference among themselves.
The payment obligations of the Republic under the Securities shall at all times rank at least equally with all its other present and future unsecured and unsubordinated External Indebtedness . . . .
Then, in 2005 and 2010, Argentina held out an olive branch to the international finance world and formally restructured its debt offering to exchange the old FAA Bonds for new bonds, called Exchange Bonds, however only at the miserly price of 25 to 29 cents on the dollar. Argentina was able to push bondholders to accept such a low price because the offer was coupled with a new domestic law passed by its own Legislature actually making it illegal for the country to ever pay back the old bonds. In other words, according to Argentina it was going to be the new bonds or nothing. In total from the two exchange offers 92% of the bondholders took the new bonds on offer. Singer and his distressed debt co-investors (a.k.a. vulture funds) did not accept and preferred to litigate.
Usually, when there is a restructuring like that it is based on the prior presence, in the legal agreements governing the debt offerings, of a clause known as a Collective Action Clause (CAC), to which all subscribers have to agree when they subscribe for an investment in the first place, or is a condition which they inherit if they buy in later. Such a clause allows for hold-outs in a restructuring to be forced to agree with the majority if enough people vote in its favour, usually around 85%.
Singer Sues To Get Paid
However in the case of the FAA Bonds there was no such CAC, and this opened the door for Singer to later go to court and complain about inequality of treatment once Argentina began paying the interest and principal on the newly issued Exchange Bonds, which it has continued to pay since too, but did nothing for the defaulted bonds.
Singer’s grounds for doing so were, first, that the loan agreement was written under New York Law so any laws passed by the State of Argentina itself saying his bonds could not be paid was simply not valid – at least not if Argentina wished to continue to avail themselves of international banking and payment services denominated in US dollars, and therefore administered from the United States.
His second ground for doing so essentially derives from the second sentence of the Pari Passu clause above, as Singer made the rather bold claim at the time that because of the way the sentence is written payments cannot be made at all on any of the new Exchange Bonds to anybody unless they are also made, pro rata, on the old ones as well – which he and his co-investors happen to own rather a lot of, and on which they are now claiming a total of US$1.33 billion in cash due to them for principal and unpaid interest to date.
To the absolute surprise of many legal theorists and practitioners, in the Fall of last year the District Court in the Southern District of New York under Judge Thomas Griesa, agreed with Singer and, after a couple of hearings to clarify the District Court’s intent, the Appeals Court for the Second Circuit of New York last week finally also backed the decision 100%.
The essence of their judgment is, that Argentina voluntarily chose New York law as the governing law for its debt offerings; that it voluntarily chose not to have a Collective Action Clause included in its agreements; that it voluntarily chose the language of the Parri Passu clause as it was written by its own lawyers rather than in some other legal form; accordingly now Argentina must face the consequences of the clear meaning of it, and particularly of its second sentence, in the opinion of the District Court and as now confirmed by the Appeals Court.
To some legal theorists because countries cannot really go bankrupt like private companies do, and assets cannot be pursued in bankruptcy court, the concept of a Pari Passu clause means less anyway in the legal language of sovereign loan agreements. Well if that were once so, the New York District Court has now upended the debate and we will now see if the Supreme court wants to get involved as another nation state is involved.
Singer Moonlights As A Debt Collector Too
Singer has tried assiduously over the years to wage guerrilla war to seize assets of the Argentine government held overseas in pursuit of his claims. Last October he was successful in impounding an Argentine naval training ship in Ghana, demanding a US$20 million bond for its release. Argentina refused to pay, and its sailors even reportedly drew weapons at one point against the hapless Ghanaian port police who had come to impound their ship. Eventually Argentina got it released three months later by the UN International Tribunal for the Law of the Sea, on the grounds that warships cannot be taken as collateral even for a large debt!
As part of its defences against seizure, too, Argentina is understood to have parked a good portion of its US$40 billion of foreign exchange reserves at the Bank for International Settlements in Basel, Switzerland – out of reach of American Law and American Bank Regulators. BIS is an official multilateral institution, essentially being the Central Bank for the world’s Central Banks. When Singer was rude enough to serve a subpoena on its General Manager, Mr. Jamie Caruana, when he was about to start giving a speech one day, the Swiss Government was not at all amused and in two weeks flat its Supreme Court reversed a local Swiss court’s preliminary decision in Singer’s favour and blocked Singer’s attempts to seize a good chunk of Argentina’s official reserves deposited there.
Since US courts do not usually seize the assets of a foreign state either, under a piece of legislation known as the Foreign Sovereign Immunities Act (FSIA), passed in 1976, Judge Griesa and the Appeals Court have very cleverly found a way to make the new ruling enforceable in practice. The ruling enjoins anyone who has anything to do with making regular payments on behalf of Argentina on its current Exchange Bonds, i.e. banks, trust companies etc, not to do so and in no way to cooperate with the process. As a result, if Argentina continues to want to make payments on its current debt it seems it must also have to make pro rata payments on the moneys owed to Singer and his friends. Or, if it defies the court then as a direct result it will be unable to make payments to anybody at all. The net result of that, it would seem, is for the country to go bankrupt all over again.
Some observers have pointed to Greece, as a case where in its own recent debt restructuring the country passed a retroactively effective Collective Action Clause, and have expressed surprise that Argentina has been unable to do the same. However the essential difference between the two countries is that 90% of Greek sovereign debt is expressed in legal agreements already governed by Greek national laws, where they can do essentially whatever they like, not by foreign law and certainly not by New York law. Future sovereign loan agreements of other countries too almost certainly will trend towards using local law rather than New York or UK law where they can.
This has been a long odyssey for Paul Singer, and we still have to see if Argentina now tries to appeal all the way to the Supreme Court of the United States. Until then he had better not rush out and spend his profits just yet. However he does have a knack for it; in one previous deal alone it is reported that he invested US$ 2million in defaulted sovereign debt, with a face value of more than US$30 million, that was issued by the Republic of Congo. His fund was then able to win a US$100 million judgment from the English courts and also apparently he managed to intercept US$39 million worth of oil owned by the Republic of Congo for his troubles. whether Vulture Fund, or modern day pirate, or simple reader of complicated loan agreements looking for a distressed investment with an edge; that is Paul Singer’s firm in a nutshell.
About Paul Singer
Paul Singer, 68, grew up in a Jewish family in Tenafly, New Jersey, one of three children of a Manhattan pharmacist and a homemaker. He earned a Bachelor of Science degree in Psychology from the University of Rochester and a Doctor of Jurisprudence from Harvard Law School. After that, he spent the next four years working in corporate laws firms and the investment bank Donaldson, Lufkin & Jenrette before going ougt on his own to found Elliott Associates in 1977, making it one as the oldest hedge funds under continuous management with today US$20 billion under management. A key investment strategy of Elliott’s is buying up distressed debt cheaply and selling it at a profit, or tenaciously litigating for full payment – as we see in the case of his Argentine bonds.
According to the New York Times at a conference once in Las Vegas he has said his most important attribute as an investor was “existential humility”. “What am I missing ?” is a much more important question than “How cool am I ?” he told a rapt audience, which filled the grand ballroom of the Bellagio.
For hedge fund investors, however, it has been Mr. Singer’s performance as a money manager that is of greater interest. He has returned an average of 14 percent a year, over 35 years, and apparently has only lost money in two years: in 1998 and during the financial crisis of 2008, when he lost just 3 percent, according to the New York Times. “One of the biggest enemies of our long term portfolio performance is ourselves, ” he said.