International Financing Review March 21 2020 9For daily news stories
@ visit http://www.ifre.comLebanon’s legal position
better than feared
People & Markets Pari passu clause less of an obstacleBY CHRISTOPHER SPINKLEBANON, now formally in default
on its bond payments, may have
a better hand in negotiating
with creditors than Argentina
did during its decade-long
standoff with bondholders
thanks to the wording of its
bond documents.
Mark Weidemaier and Mitu
Gulati, law professors at the
University of North Carolina and
Duke University respectively, said
the pari passu or “equal treatment”
clause, which ultimately allowed
bondholders who had not accepted
Argentina’s restructuring to be
fully compensated, is worded
differently for Lebanon.
Unlike with Argentina, where
the pari passu clause meant
holdout creditors had to be paid in
full if the sovereign wanted to
service bondholders who had
accepted its exchange offer, the
clause in Lebanon’s bond contracts
suggests holdouts will only receive
the same treatment as accepters of
any exchange offer.
“Lebanon’s pari passu clause is
pretty much the polar opposite of
Argentina’s,” said Weidemaier
and Gulati in an article, which
points out that a bondholder’s
right to equal treatment is subject
to Lebanese law, which the
sovereign naturally can set.
“This clause is crystal clear in
giving Lebanon the power to
create exceptions to the equal
treatment obligation,” they said.
“It allows it to do what got
Argentina into trouble. It would
MAKEûITûMOREûDIFlCULTûFORû
holdouts to complain when the
government pays restructuring
participants while leaving
holdouts with nothing.”
This is important since fund
manager Ashmore is understood
to hold 25% of Lebanon’s unpaid
US$1.2bn bond, which came due
on March 9. That is enough for it
to block any proposal and
instead launch legal actions for
full payment. It has not yet
commented on the situation.If Weidemaier and Gulati’s
analysis of the contracts is
upheld by judges’ holdouts –
including Ashmore, were it to go
down that route – would have to
accept any exchange settlement
negotiated by other bondholders.
So far there has been little
traction in talks between the
government and creditors about
how to restructure the country’s
US$89bn debt.
The government, advised by
,AZARDûANDûLAWûlRMû#LEARYû
Gottlieb, has yet to publish any
proposals.
Creditors are split into various
groups. The major creditors are
the Lebanese domestic banks, who
are being advised by Houlihan
Lokey. International bondholders,
such as Ashmore, Fidelity,
Greylock and Mangart, have not
yet appointed any advisers.
The Lebanese banks had
hoped to form a wider group to
negotiate with the government.
However, the coronavirus
outbreak with its accompanying
economic impact has distracted
parties from focusing on the
Lebanese situation.
“I am afraid sovereign debt
restructurings have become
something of a sideshow at the
moment,” said one legal expert.
One bondholder agreed.
“There is too much distress in
the markets right now. I suppose
it will be like this for at least
another couple of weeks.” He
said. “The Weidemaier-Gulati
article raises points that need to
be fully investigated. Contracts
are open to interpretation and
lNALûDECISIONSûDEPENDûONûTHEû
courts.”
Last Wednesday, Fitch
downgraded Lebanon from C to
RD, restricted default, after the
missed payment on the
US$1.2bn bond due on March 9.
“Fitch expects all remaining
Eurobonds to default in due
course, either as the sovereign
misses debt service payments or
as an agreement is reached on
restructuring the bonds.” An additional requirement
was that a fund must suspend
dealing when there is material
uncertainty regarding the value
of more than 20% of its assets.
While the rules are not yet in
place, many of the gatings this
week cited this as the main
reason for halting redemptions.
“The challenges in accurately
pricing properties is an issue for
the entire property investment
sector,” said Stephen Jones, CEO
of Kames Capital. “This is due to
AûNUMBERûOFûSPECIlCûEVENTSûTHATû
have combined to increase the
level of uncertainty ... which in
turn has led to periods of
SIGNIlCANTûSELLINGv
Redemptions in UK property
funds were halted for between
ONEûWEEKûANDûlVEûMONTHSû
following the Brexit vote.
During the closure, managers
spent time selling out of
properties to rebuild cash piles
and rebalancing the portfolio to
GIVEûINVESTORSûCONlDENCEûONCEû
redemptions were resumed.But with the coronavirus crisis
set to have a much bigger impact- at least in the short-term – fund
managers are braced for much
longer periods of closure. They
may also struggle to sell assets
WITHOUTûACCEPTINGûlRE
SALEûPRICESû
given the acute uncertainty
around so many things.
Many question why such funds,
which can be bought by retail
investors, should even exist. John
Lutzius, who was then managing
director for international business
ATûREALûESTATEûANALYTICSûlRMû'REENû
Street Advisors, criticised the way
the problems were addressed by
regulators following the 2016
crisis.
“Even those that prepared
well and had more cash ran into
trouble, so it isn’t so much
about the cash level – that isn’t
the problem,” he said. “The
problem is the promise of daily
liquidity. I wouldn’t re-run this
lLMûANDûSAYûHOLDûMOREûCASHû)û
WOULDûSAYûLETSûlXûTHISûSTRUCTURALû
mAWûOFûOPEN
ENDEDûFUNDSv
“Companies for quite some
time have been taking on debt
and promising the market and
ratings agencies that they would
continue or work to use free
CASHmOWûTOûDELEVER vûSAIDû*EFFû
+LINGELHOFER ûlXED
INCOMEû
portfolio manager at Thornburg
Investment Management.
“That hasn’t felt so great in the
bond market because some of
them haven’t. Some absolutely
have, but many haven’t.”HOW BIG A FALL?
While most analysts do not
think the percentage of debt
downgraded this time around
will be as large as it was during
THEûLASTûlNANCIALûCRISISûINû û
the size of the Triple B market
has grown substantially so the
dollar value could be greater.
Deutsche Bank estimates
some US$120bn of high-grade
debt could fall to high-yield.
The full value of the
investment-grade index sits at
US$6.7trn, split roughly evenly
between Single A and Triple B
credits, according to a
CreditSights report. Just a
handful of Double A and Triple
A credits remain.The size of the lowest rung of
Triple Bs, which are at the
highest risk of becoming fallen
angels, grew to US$888bn up
FROMû53BNûlVEûYEARSûAGO
From 2007–2009 around
20.3% of low Triple B debt was
downgraded to high-yield,
according to CreditSights. A
similar move today would send
US$177.8bn into the high-yield
index.
The likely effect of the
coronavirus outbreak is compared
by many to the economic impact
following the terrorist attacks on
September 11 2001 when 20% of
low Triple B debt was downgraded
to high yield.
The difference is that some
11.2% of mid-Triple B credits
were downgraded at least two
notches to Double B during the
lNANCIALûCRISISûWHILEûJUSTûû
made that dive after 9/11.
“We now think our worst case
for the year 2020 should
become our base,” CreditSights
wrote in the report.
“In that case under what now
looks like a more reasonable
expectation for 2020, BBB
leverage would rise by morethan a full turn to 4.3 times.” (^)
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