Currency Crises

The Argentina Veterans Eye the Euro Warily


In early 2001, nine months before the government of Argentina stopped servicing its $95 billion in debt, Jonathan Binder of Standard Asset Management sold all his holdings of the nation's bonds, protecting clients from what remains the biggest sovereign default in history. He's betting Greece, Portugal, and Spain will have to restructure their debts and leave the euro.

Binder, now chief investment officer at Consilium Investment Management in Fort Lauderdale, has been buying credit default swaps to protect against default by the three nations as well as Italy and Belgium. "You will probably see at least one restructuring before the end of next year," he says. His Emerging Market Absolute Return Fund is up 17.6 percent so far in 2010, vs. an average return of 10 percent for emerging-market funds, according to BarclayHedge, a tracker of hedge fund performance.

A number of investors and economists who bet right on Argentina are becoming convinced that bondholders in Europe's troubled sovereign debt will have to accept new securities that pay less interest and mature later. Mohamed A. El-Erian, whose emerging-market fund at Pacific Investment Management beat its peers in 2001 by avoiding Argentina, expects some countries to exit the 16-nation euro zone.

Gramercy, a $2.2 billion investment firm in Greenwich, Conn., is buying swaps in Europe to "hedge" holdings of emerging-market bonds, says Chief Investment Officer Robert Koenigsberger; he sees the turmoil in Europe affecting emerging markets. Koenigsberger dumped Argentine notes more than a year before default. "The currency rigidities and fiscal traps that bound Argentina in 2001 and on the periphery of Europe today are quite similar," he says. "A purely economic decision would have Greece already in default, and several other nations close behind."

Before the Argentine crisis erupted, the Argentine peso traded at a fixed rate to the dollar, smothering inflation. Argentina maintained the peg for a decade, encouraging overseas investors to buy its bonds, even though its budget deficit was growing. A severe recession in the late 1990s tested its ability both to keep the peg and pay its debt. The final blow was a move by Brazil, Argentina's top trading partner, to devalue its currency. Argentine exporters, squeezed already by the strong peso, could no longer compete. In late 2001 riots over spending cuts and the seizure of retirement savings toppled the government. Argentina defaulted in December. The peso lost 74 percent of its value in the devaluation that followed.

In a similar pattern, the early success of the euro encouraged investors to lend liberally to governments and banks in the euro zone, even though countries such as Greece had bumpy fiscal histories. The rise in the euro's value against the dollar later hurt manufacturers in Greece and Portugal, while the recession revealed their fiscal weaknesses.

Domingo Cavallo, who resigned as Argentina's Economy Minister in December 2001, says the International Monetary Fund and European Union should buy the debts of Greece and other afflicted countries at today's depressed prices and institute labor and tax reforms. "If they don't do something in a more rapid way, that may destroy all the governments simply because people in these countries will not stand deflation and depression accompanied by fiscal adjustment," says Cavallo, now chief executive officer of DFC Associates, a Buenos Aires consultancy. "There will be a political crisis in an extreme way, as happened in Argentina."

The European nations affected by the crisis are in worse shape than Argentina was in 2001. In 2009, Greece's total debt amounted to 127 percent of its gross domestic product, while Argentina's public debt was 62 percent of GDP in 2001, according to IMF data. Greece's budget deficit of 15.4 percent of its economy is the highest among developed nations, followed by 11 percent in Spain and 9.3 percent in Portugal. Argentina's budget deficit was 6.4 percent in 2001.

One veteran of earlier crises predicts an all-out effort to avoid the worst. The EU, IMF, the U.S., and China will do what it takes to avoid a default and breakup of the euro, says former IMF economist Simon Nocera, who manages emerging-market bonds as co-founder of Lumen Advisors. "I don't think the situation will blow up or that someone will leave the euro," says Nocera, who was a manager at George Soros' Quantum Emerging Growth Fund during the Asian crisis and Russia's ruble collapses. "The status quo is of great interest not only to Europe but also to the U.S. and to China. It's an entirely different ball game than a default in Argentina."

The bottom line: Argentina's debt default and currency devaluation offer insights to money managers assessing risk in the euro zone.


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