15/06/2012
Vultures profit from Greek tragedy
By Jonathan Watson
The Greek economy has been in a bad state for quite some time. So when the country’s caretaker government announced in May that it was making a €436 million bond payment to investors who had rejected the debt restructuring deal agreed by a previous administration in March, it came as no surprise. Why make a bad situation worse by defaulting on a bond payment?
Of this payout, almost 90 per cent reportedly went to Dart Management, a secretive investment fund based in the Cayman Islands. Dart and other funds like those created by Elliott Associates are fond of buying the sovereign debt of nearly bankrupt countries and then holding out against any write-down on that debt, hoping to get paid out in full. For this reason, they are often referred to as ‘vulture funds’.
If they don’t get paid, they sue the government for the money. Dart and Elliott are still suing Argentina in the US courts to demand full payment of bonds on which the country’s government defaulted in 2002.
As it accumulated most of its Greek bonds at prices that traders estimate to be from 60 to 70 cents on the dollar, and received 100 cents on the dollar, Dart should have made a significant profit. This is especially galling for the Greek banks and other local institutions that were forced to take a 75 per cent loss on their Greek bond holdings.
Could the payout have been avoided? Many commentators suggested that it was not only unjust but also a bad strategic move, as it would encourage other bondholders to hold out for the full amount. But Ian Clark, a London-based partner in the capital markets practice at White & Case, does not think the payout is necessarily an indication of how Greece will handle other holdout bonds as they mature.
‘At the time of the payment there was no clear political direction in Greece and the caretaker government probably did not want to take the important decision of whether to default on sovereign debt obligations in the absence of a clearer mandate from Greek voters,’ he says.
‘‘Although vulture funds like Dart may be considered odious...from a policy standpoint the payment of relatively small amounts to such creditors may be the better option for Greece '
Ian Clark
White & Case, London
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Clark believes that if the Greek electorate votes this weekend for an anti-austerity government that puts Greece on a path to leaving the eurozone, it may be politically prudent and financially responsible for Greece to default on holdout bonds falling due in the coming months.
‘Although vulture funds like Dart may be considered odious insofar as they are seeking windfall profits out of circumstances in which many portfolio investors have accepted deep losses, from a policy standpoint the payment of relatively small amounts to such creditors may be the better option for Greece than embarking on a prolonged period of litigation as Argentina has done,’ he says.
According to Hendrik Haag, a partner in the Frankfurt office of Hengeler Mueller and the chair of the IBA Financial Crisis Task Force, investors such as Dart are simply being rewarded for their good judgment. They saw there was a risk that the Greek state might change the terms of notes issued under Greek law, so they invested in bonds that were governed by the laws of other jurisdictions.
‘It all looks very unjust, it looks like unequal treatment, and that has made a lot of people upset,’ Haag says. ‘But the overall volume of bonds is small – I think three per cent or so. So I don’t think that will kill them. If the Greeks still have access to money from the EU, they can repay these bonds if they want.’
Once small countries like Greece or Sweden attract the attention of certain types of fund, it can have quite an effect, says Peder Hammarskiöld, senior partner at Swedish law firm Hammarskiöld & Co and another member of the Task Force. ‘Sweden had its currency pegged for a while about 20 years ago, but then George Soros and his funds began to speculate against the krona,’ he says. ‘I think it’s generally accepted that that was one of the reasons why the currency was then forced to float, because it was just too expensive to prop it up.’
Clark believes that any moral indignation about the activities of vulture funds should be tempered by an awareness that all they are doing is insisting on the sanctity of contract, ie, keeping sovereign debtors honest. ‘This is a principle that is fundamental to the integrity and continued functioning of international capital markets,’ he says.
It is worth noting, however, that by passing the Debt Relief (Developing Countries) Act 2010, the UK outlawed vulture fund activity, protecting Heavily Indebted Poor Countries (HIPCs) by limiting the proportion of debts owed by them that a commercial creditor can claim through the UK courts.