Even after an expedited IMF bailout finally helped stabilize the Argentinian peso after a historic plunge, Argentina’s bonds have continued to languish as investors continue to brace for an inflationary tidal wave, while political instability has remained a factor as embattled former socialist leader Cristina Fernández de Kirchner (i.e. CFK) could return to power after next year’s election, dealing a major blow to international investors who predicated their bullish case on the business-friendly rule of President Mauricio Macri.
But all of this instability hasn’t stopped some of the world’s largest bond funds from hanging on to the country’s debt, which is paying the highest interest in the world (assuming the buyer hedged out that currency risk).
Case in point, Bloomberg reports that PIMCO and its parent company, Allianz, are holding an Argentinian note that pays a floating coupon equal to the country’s benchmark interest rate, which remains just below 60% after briefly climbing above 70% during the turmoil seen in Q3 and Q4.
While that payout is huge, in nominal terms, after shedding some 50% of its value earlier this year (it has since rebounded 7%), and adjusting for inflation, the peso’s decline would have eroded most of the return. Furthermore, consumer prices are on track to climb 50% in 2018, more than triple the Argentine Central Bank’s forecast for a 15% rise. The future remains just as bleak, with Argentina’s economy, which entered a recession this year, likely won’t pull out of it until the second half of 2019 according to analysts.
Fortunately for PIMCO, it’s EM desk had the good sense to hedge out at least some of that currency exposure.
Pimco hedged some of its currency exposure to the Argentine notes, according to a person with direct knowledge of the matter, who asked not to be identified because the information is private.
Because of this volatility, betting on Argentina takes “discipline”, and that buying these bonds should be a “long term play,” said PIMCO’s head of EM, which of course is what any PM says who is currently underwater on their investment.
“Emerging markets remain subject to both internal and external sources of volatility,” Mike Gomez, Pimco’s head of emerging market portfolio management, said in an email. “A disciplined and highly differentiating approach to the asset class provides opportunities for patient investors to benefit from dislocations that create compelling value.”
PIMCO owns roughly half of the notes in circulation. But it’s not the only major US-based investor with a significant stake. AllianceBernstein is the second-largest holder of the bonds, with 6.5% outstanding, and Goldman Sachs is No. 3 with 4.4%.
Slightly lower on the list is Franklin Templeton, with a 2.1% stake. Michael Hasenstab, who has been repeatedly bailed out by central banks on his hail mary bond investments in Europe during the financial crisis, and whose $35 billion Templeton Global Bond Fund eked out a market-beating 2.1% gain this year, said he’s bullish on Argentina. “The peso already had its big selloff in late summer and early fall,” he said.
“We increased our exposure to capture the depreciated currency and significant increase in interest rates. The necessary adjustment measures were underway to stabilize the economy. The worst is behind us.”
Whether these bets pan out over the next year will ultimately depend – as all global markets do – on what happens in the US. If stocks continue to sell off and Treasury yields continue their move off the highs from October, the world could see the “carry is king” theme reemerge.
If that happens, lagging Argentine bonds could finally get their moment in the sun, and PIMCO may be looking at the world’s highest (inflation-adjusted) return too.