Falling reserves may signal bond market return: Argentina credit

Argentine reserves are falling to their lowest levels in a year, fueling speculation the government may have to tap international debt markets in 2012 for the first time since its record default in 2001.

Argentine reserves have fallen 4.8 percent this year to $50.1 billion, from a record $52.6 billion in January, as the government uses them to repay debt and support the peso, the third-worst performing currency in the world. The country may sell more than $5 billion in bonds next year, UBS AG said in an Aug. 2 report. The yield on Argentine dollar debt climbed 107 basis points, or 1.07 percentage point, to 9.90 percent this year through yesterday, the second-highest after Venezuela among 17 emerging-market economies tracked by JPMorgan Chase & Co.’s EMBI+ index.

Investors are pulling money out of South America’s second- biggest economy at a record pace, withdrawing $9.8 billion in the first six months compared with a total of $11.4 billion in all of 2010, according to the central bank. President Cristina Fernandez de Kirchner, who leads polls in her bid for a second, four-year term in October, has overseen inflation accelerating to as fast as 25 percent this year, according to economists including former central bank President Alfonso Prat-Gay.

“The current economic model, which is based on a weak peso in real terms, is beginning to run out of space and out of room for maneuver,” Daniel Volberg, an economist at Morgan Stanley in New York, said in a telephone interview. “You’ve got stronger growth but not enough investment and inflation that’s too high and that’s the problem.”

Debt Restructuring

The decline in Argentine reserves counters what is happening across South America, where central bank savings have risen to a record $700 billion this year while all the region’s other major currencies have gained.

In 2010, Argentina restructured about $12.9 billion in bonds tied to the country’s 2001 default on $95 billion. Instead of selling bonds, it used $6.6 billion in central bank reserves to pay debt, and plans to use $7.5 billion this year.

Press officials at the presidential palace and Economy Ministry didn’t return e-mailed messages seeking comment.

Argentine reserves that exceed the money supply, which the government has been using to pay debt under a decree issued last year, will run out by the end of the year, making it more likely the government will move to sell bonds globally in 2012, said Federico Bragagnolo, an economist at Buenos Aires-based researcher Econviews.

Fernandez, 58, declined to respond directly to a question about whether the country would need to sell debt in 2012 during an Aug. 15 news conference in Buenos Aires, citing turbulence in global financial markets.

Money Supply

“To talk about what is coming next year, in this world we see today, is like talking about what is coming two centuries from now,” Fernandez said. Using reserves has allowed the government to devote more of its resources to the “real economy,” she added.

While Argentine reserves have declined 4.8 percent this year, the money supply, as measured by the M0 index, has grown 19 percent to 190.1 billion pesos ($45.6 billion) though Aug. 5, driving down the so-called “free and available reserves” to about $4.68 billion from $13.63 billion at the end of last year, according to data from the central bank. The M0 supply includes only cash or assets that can be quickly converted to cash.

That cushion won’t be enough to cover Argentina’s 2012 obligations, which UBS AG estimates will include $15.5 billion in interest payments, amortization of debt and payments on securities tied to the country’s gross domestic product. Argentina’s reserves will fall to $49.6 billion by year-end as the peso weakens to 4.21 per U.S. dollar, according to Javier Kulesz, a Latin America economist for UBS.

“It’s not enough to pay 2012 obligations,” Kulesz said by phone from Stamford, Connecticut. “You have less supply of dollars, you have more demand of dollars and essentially reserves are not growing, in fact they’re starting to go down a little bit. Now their excess supply of dollars is no longer there.”

Even with shrinking reserves, Argentina will have the resources to get through next year without selling debt, Felipe Hernandez, a Latin America analyst at RBS Securities Inc, said in a phone interview from Stamford, Connecticut. In addition, it would be “politically very difficult” for Argentina to try to sell bonds at a rate of 8.5 percent or 9 percent, said Bret Rosen, a debt strategist at Standard Chartered Bank in New York.

“What you could theoretically do is allow some depreciation of the foreign exchange,” Rosen said in a telephone interview. “Your free reserves then go up. You end up with less dollars relative to your central bank reserves so that seems to be the way in which they can at least, for the time being, resolve that situation.”

GDP Warrants

The extra yield investors demand to hold Argentine government dollar bonds instead of U.S. Treasuries rose 12 basis points to 741 at 1:07 p.m. New York time, according to JPMorgan’s EMBI Global Index.

Warrants tied to economic growth fell 0.43 cent to 17.53 cents.

The peso weakened 0.1 percent to 4.1715 per dollar.

The cost of protecting Argentine debt against non-payment for five years with credit-default swaps declined one basis point yesterday to 751, according to data compiled by CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market. The swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements.

Faster Inflation

Argentina’s trade surplus fell to $1 billion in June from $1.3 billion a year ago, the national statistics agency said July 22. Exports rose 24 percent from a year earlier to $7.9 billion while imports soared 37 percent to $6.9 billion.

Faster inflation is hampering Argentine efforts to encourage more domestic production, said Volberg. The government says prices rose 9.7 percent in July from a year earlier, less than half the rate estimated by economists including Prat-Gay. Official inflation reports have been questioned by economists since 2007, when then-President Nestor Kirchner began changing personnel at the agency to “improve operations.”

Under Fernandez, Argentina’s economy has grown an average of 5.6 percent annually since 2008. Tax revenue rose 28 percent in July to about 48 billion pesos and unemployment hit a record low of 7.3 percent in the second quarter.

“It’s a virtuous circle unless you have inflation, which erodes the exchange rate, which is what you’ve been getting,” Volberg said.