Argentina confronts challenges of global capital markets

Argentina’s historic issuance of $16.5bn worth of bonds in April 2016 marked the country’s return to the international capital markets after effectively being barred for 15 years. Argentina has had a troubling history in global markets, having defaulted on its sovereign debt eight times since 1816, the most significant being the 2001 default on more than $80bn.

Since taking office, President Mauricio Macri’s administration has successfully reached an agreement with its holdout creditors and implemented a number of market-friendly reforms, ranging from lifting currency restrictions to abolishing export quotas. While this helped to significantly improve investor confidence in the nation, bolstering its performance across most metrics, some of these gains have been eroded in the early months of 2018, amid creeping inflation and a shift away from emerging market equities among investors.

Capital markets have nonetheless been an important tool for the government in recent years, and are being targeted for further reform and growth. The country has gone to market numerous times to finance its fiscal deficit – which it hopes to shrink from 4.6% of GDP in 2016 to 3.2% in 2018 – as well as to finance a bold infrastructure development programme (see Construction & Real Estate chapter).

“Foreign investors need to know that the changes undergone by the country as a whole are real and for the long-term,” Eduardo Serra, CEO of BNP Paribas Investment Partners, told OBG. “We left a situational of market closure with no access to international financing, and now it is time to convince global investors of the new path the country is following, which includes normalising the macroeconomic scene.”

Structure

Argentina has one of the oldest capital markets in the region, with its first stock exchange – the Buenos Aires Stock Exchange (Bolsa de Comercio de Buenos Aires, BCBA) – established in 1854. Since it was created, the bourse has undergone a number of restructurings; the most recent took place in 2017, with the creation of the Bolsas y Mercados Argentinos (BYMA) via the merger of the Buenos Aires, Córdoba, Rosario and Bahía Blanca exchanges. The bourse had 100 listed companies in July 2018. The BCBA is now the largest minority shareholder in the BYMA and is charged with ensuring the tenderability of issuers, while the National Securities Commission (Comisión Nacional de Valores, CNV) has retained its role as market regulator.

After being barred from international markets, the government – and indeed, the economy as a whole – was forced to raise funds within its own borders. During that period, the primary market became increasingly dynamic in terms of the volume of transactions for a number of innovative products, such as cheques, negotiable debt securities and commercial paper.

This market – known as the Mercado PyME – was made up of approximately 17,000 companies trading some sort of short-term instrument, with the backing of a mutual guarantee company. Under the latest restructuring, the Mercado PyME was combined with the Mercado Argentino de Valores – one of the four other exchanges in the country.

Among the other three are two futures markets, the Rosario Futures Exchange (Mercado a Término de Rosario, ROFEX) and the Buenos Aires Futures Market (Mercado a Término de Buenos Aires, MAT ba); and the Electronic Open Market, known locally as the Mercado Abierto Electronico, where banks engage in wholesale trading of bonds and dollars. Negotiations are ongoing for the merger of the ROFEX and the MAT ba.

Sovereign Debt

By far the deepest and most developed market is that of government-issued debt, representing 87.7% of total assets as of the first quarter 2018. Of this, local corporations held 53%, foreign firms 41% and private Argentine investors 5%.

The nation’s return to international markets in 2016 resulted in a total of $22bn of sovereign issuances over the course of the year, which continued into 2017. Argentina had issued a total of $13.4bn in debt in both foreign and local currency by the end of December 2017, overshooting its previously stated target of $12.75bn. This included the historic sale of $2.75bn of 100-year bonds at a yield of 7.9%, which attracted $9.75bn in orders. This marked Argentina as the second Latin American country to issue a “century” bond, following Mexico’s debut in 2010.

The year to date has also seen new sovereign debt placed. In January 2018 the government issued three new bonds worth a combined $9bn, with five-, 10-, and 30-year maturities at coupon rates of between 4.625% and 6.95%. The 2018 budget foresees a combined $30bn of new debt to finance the deficit, half of which will be traded on international markets.

At 57.1% in 2017, Argentina’s debt-to-GDP ratio is relatively low – the result of previous administrations’ inability to borrow abroad following the 2001 default. By comparison, debt to GDP stands at 74% in neighbouring Brazil and 105.4% in the US. As such, despite the rapid accumulation of debt since 2016, most analysts remain confident that levels remain manageable.

However, this assessment is notably contingent on the Argentine economy continuing its upward trend and the government keeping up efforts to narrow successive budget deficits (see Economy chapter). .

Corporate Debt & Equity

The Argentine corporate debt and equity markets are smaller than the sovereign market; however, they have been picking up steam. A total of AR330.7bn ($17.1bn) was issued between May 2017 and April 2018, a 45% increase on the AR228.2bn ($11.8bn) seen in the 12 previous months.

A combined AR111.19bn ($5.8bn) was issued in the first four months of 2018, up 41% year-on-year. Negotiable bonds accounted for 69% of the total, followed by financial trusts (16%), deferred-payment cheques (7%), shares (6%) and promissory notes (1%). Of the 101 negotiable bonds introduced, financial services firms were the largest issuers, accounting for 57% of the total by value, followed by energy companies, with 35%.

Performance

As was the case in 2016, the stock market’s main indexes finished 2017 up significantly. The MERVAL Index, which tracks the most liquid shares, closed the year at historic levels, rising 78% to just over 30,000 points. Some 66 local companies increased in value and 11 saw share price reductions. For its part, the MSCI Argentina Index outperformed the MSCI Emerging Markets Index, with respective gains of 73.5% and 37.3%.

Dividends paid to shareholders reflected a second consecutive year of strong results, increasing by 81% to $1.67bn, and up from $482m in 2015. However, only 41 companies paid dividends, down from 43 in 2016. The oil and gas sector maintained its leading position, accounting for 23% of dividends paid, followed by banks (18%) and telecommunications firms (13%). While comprising a small share of all dividends (2%), the agriculture and livestock industry noticeably increased its payments to shareholders, with dividends up more than 40-fold.

Five companies began trading in 2017, according to an annual report by the Argentine Institute for Capital Markets (Instituto Argentino de Mercado de Capitales, IAMC): BYMA, the stock market operator, floated a portion of its shares; Cablevisión Holding began trading outstanding share capital with a view to listing on the New York Stock Exchange; Loma Negra, the country’s leading producer of cement, and Laboratorios Richmond, a pharmaceutical firm, both conducted initial public offerings (see analysis); and Molinos Agros, a newly created subsidiary of conglomerate Grupo Perez Companc, listed shares following a corporate restructuring. Together, these five new entrants helped boost total market cap to 19.5% of GDP, up from 11.5% at end-2016. The capitalisation of domestic firms rose by 103.8% in peso terms and 74.1% in dollars.

In the debt market, the headline IAMC bond index also hit record highs in 2017, posting a 24.8% annual increase in pesos and 5.5% in dollars. BYMA-wide trading volumes were up 92.4% on the year in peso terms and 70.9% in dollars. The majority of the increase was accounted for by increased trading in Argentine sovereign bonds, which doubled to AR2.09trn ($108.2bn). Stocks, for their part, saw a 76.7% increase in trading volume in 2017, to AR122.4bn ($6.3bn).

The MERVAL continued its bullish trend in January 2018, climbing another 16.2% in peso terms and 10.3% in dollar terms. However, by June it had fallen due to growing volatility across emerging markets, down 8.8% from the previous month in pesos and 21.5% in dollars – a spread exacerbated by a 16.1% depreciation of the peso over the month. Year-to-date, the index was down 13.4% in peso terms and 44.3% in dollar terms.

The price-to-earnings ratio of companies tracked by the MERVAL suffered a strong drop in March, closing at 18.6, after averaging above 20 since early 2016. By July it had fallen to 10.1. The market capitalisation of domestic firms on the MERVAL, meanwhile, was down 13.4% year-to-date in pesos and 44.3% in dollars – again, due to the peso’s sharp depreciation. The market cap of all domestic firms eased to 17% of GDP as of April 2018.

Reforms

Since the new government took office in 2015 the capital markets regulator has rolled out reform after reform, issuing approximately 50 new resolutions in less than two years. The CNV’s underlying goal is to improve the industry’s functioning, increase liquidity and depth of the secondary market, boost access to equities for foreign and local investors, simplify processes of issuance and investment, and bolster transparency. Some noteworthy changes include the introduction of short-selling to mitigate market volatility risk, efforts to facilitate registration of mutual funds and the creation of a new instrument known as simple negotiable bonds, or ON Simple. The latter, which feature lower registration and reporting standards, are targeted at small and medium-sized enterprises (SMEs).

The regulator has also revised the functions, activities and operational requirements of market agents in an effort to spur much-needed consolidation among brokers. Today, Argentina has more than 350 active brokers, compared to 80 in Brazil and 30 in Mexico. The CNV has increased capital requirements for brokers from $200,000 to $900,000, and will be seeking to introduce solvency ratios in the coming months.

In another boon to the market, tax reforms in 2017 withdrew a 15% withholding tax for foreign investors on the sale of shares – a fiscal burden that had acted as a significant obstacle to foreign participation.

However, the most eagerly anticipated change to the sector was a capital markets reform bill, approved by Congress in May 2018 (see analysis). One of the most important changes under the law was a regulatory one: the CNV previously had the authority to remove members of the board of listed companies without judicial approval, but this power has been rescinded. This provision had caused a number of companies to de-list or avoid local listings altogether.

However, the bill strengthened the CNV’s supervisory role in other areas – for example, by granting it oversight of external audits of listed firms.

The reforms are also slated to reinvigorate factoring – whereby companies purchase debt or receivables from other firms – by making it compulsory for businesses to issue a securable electronic invoice to be approved within 15 days of factoring, taking away the ability of the third party to influence the process. “We expect a strong boom in factoring of receivables held by SMEs,” Marcos Ayerra, chairman of the CNV, told OBG. “Today, the factoring market represents 0.36% of GDP, but this could easily reach between 3% and 4% in the coming years,” he added.

The bill also includes changes to non-existent or underutilised instruments, such as real estate investment trusts, and bolsters oversight by strengthening the role of central counterparty clearing houses and trade repositories. In addition, it touches on insolvency regulations for derivatives and repurchase agreements.

Fun with Funds

In terms of new instruments, the law facilitates the development of project funds and inflation-linked mortgage securities, and permits closed-end mutual funds to invest in alternative assets, such as real estate or agricultural land. “This law will propel the closed-end funds industry forward by incentivising the creation of new traditional funds, such as venture capital, private equity and asset management. This has the potential to increase the sector’s share of GDP by an estimated 5%,” Ayerra said.

The industry had seven closed-end funds holding $300m in capital in the first quarter of 2018, whose creation stemmed from a tax amnesty policy initiated by the administration of President Macri in 2016 that saw close to $100bn worth of assets declared. While closed-end funds are common across Latin America, they are a new development in Argentina, and the government is therefore seeking to tap into them as a source of financing for infrastructure development.

Open-end mutual funds are also on the rise. The industry increased its total asset base from $19.9bn at the beginning of 2017 to nearly $29bn one year later. In addition to growing its footprint in terms of assets under management, the total number of investment accounts has almost doubled, from 235,000 in December 2016 to 440,000 by end-2017, 90% of which were opened by individual investors, accounting for 18% of total assets. As this rapid growth suggests, there is significant scope for further expansion, and mutual funds offer an attractive avenue for retail investors.

“We are moving ahead with a number of new services, especially in the field of financial technology, to increase the level of inclusion in capital markets,” the CNV’s Ayerra explained to OBG.

“The number of investors in open ended mutual funds tripled from nearly 140,000 in 2015 to 440,000 by the end of 2017,” he said, underscoring the size of neighbouring capital markets as an indication of growth potential: Brazil has roughly 14m individual investors, while Chile, whose population is even smaller than Argentina’s, has around 2.5m.

Outlook

Perhaps no industry has better epitomised the success of the market-friendly reforms engendered by the current administration. After being barred from international finance for 15 years, Argentina has taken steps to catch up. Despite some of the gains of 2016 and 2017 being eroded in mid-2018, the country is betting on a longer-term rebound, supported by emerging market reclassification by MSCI (see analysis) and a continued commitment to reform among policymakers.