Although Argentina is in a precarious situation with the country's recession worsening and the government about to default on $132 billion of public debt, Robert Kowit, senior vice president of Federated Global Investment Management, is keeping his cool.
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The U.S. and world economies shouldn't suffer serious ramifications from such a default, Kowit is sure, simply because they don't have extensive exposure to Argentine debt (others, however, are
not so sure).
That doesn't mean that Kowit has warmed up to this emerging market as an attractive investment, though. The public services system in Argentina is, in a word, crooked, Kowit maintains, and not until the government cleans up its act will he recommend that the portfolio managers who report to him renew their interest in Argentina.
Kowit oversees a number of funds, including the (IHIAX) - Get Report Federated International High Income Fund, which is up 4.3% year to date through Oct. 1 and has a three-year annualized return of 8.5%, as well as the (STIAX) - Get Report Federated Strategic Income Fund, which is up 2.1% year to date and has returned an average 3% annualized return over the past three years.
TSC: If Argentina is going to default, what repercussions will this have for the world economy and for the U.S. economy?
Kowit: Zero impact on the U.S. economy. The United States pretty much doesn't sell anything to Argentina. And relatively little impact on the world economy.
TSC: But it seems like investors have been concerned about the threat of Argentina's pending debt crisis for quite some time now.
The impact, even on Argentina's closest neighbors, has been fairly minimal. The country having the most potential impact is Brazil, if you just take the benchmark bonds in each country. The benchmark bond in Argentina on Oct. 1 was trading at just about 69 cents on the
U.S. dollar. That traded as low as 42 cents
The benchmark bond in Brazil was trading at 66 3/4 on Oct. 1, and that's actually up, at 67 3/8 now.
The benchmark bond in Russia, which is one of the other big emerging-market components, was trading at 97 3/8 on Oct. 1, and that's trading par and 1/2 this morning, so that's up about 3%.
TSC: What is this telling you? How are you interpreting these figures?
The interpretation is that the market has done an excellent job of differentiating Argentina and its very specific problems from emerging markets in general.
TSC: What do you think is going to happen in Argentina?
That they will restructure their debt, that it will be messy, and that they either will get the message and start implementing some of the long-awaited reforms, or they will not.
TSC: Are you still bullish on the country? What is your take on it as an investment?
We have been out of Argentina for some time, certainly since the beginning of this year.
If, in fact, they started implementing some of the reforms, I might become interested in investing in it again -- if the perpetual governors of the major provinces started reforming their spending processes. This means doing away with a lot of the corruption in their regimes.
I might also become interested if there was reform of the pension system, which is their equivalent of our Social Security system. For example, suppose you could go to your congressman with a big donation and he gets re-elected and you had not put a penny into the Social Security system. In Argentina, he could put forth a bill that would entitle you to, say, $100,000 tax-free annually from the pension system.
The estimate is that about 20% of the pension system is made up of corrupt bills like that. Another very large percentage of the recipients from the pension system, if alive, would be more than 110 years old. Believe it or not, that money is still going out.
You are not talking about the kinds of reforms that would be taking money out of the mouths of widows and orphans. A few things like this would, at least, give out the signal that they are getting their act together.
TSC: So what is the most likely scenario that you expect to play out?
The most likely scenario is that they restructure their debt and extend the term and cut the coupon so that they don't have as much debt service. The objective was to reduce the amount they have to spend each year on interest by $3 billion to $4 billion. So they will probably unilaterally try and restructure that.
Now, whether or not the bondholders are going to agree with that is very hard to say. It might go smoothly; it might not go smoothly.
TSC: How does this crisis compare with earlier debt crises?
The last debt crisis was 1999 when Brazil devalued their currency, but they never missed a payment on their debt. They didn't default.
Before that, it was Russia in 1998. Russia devalued and they defaulted on their local currency debt, but they never stopped servicing their dollar-denominated debt. Before that was Korea, and before that, in 1994, was Mexico, also where they devalued the currency but never stopped paying on their dollar-denominated debt.
Defaults in emerging markets really have been pretty rare.
TSC: What's your general outlook on emerging markets?
The markets have behaved so incredibly well through this period, even with the terrorist attacks of Sept. 11. The markets have not stopped trading for a day. There has always been decent liquidity. And the market has done a superb job of differentiating the credits in the market.
And the sponsorship of the market hasn't been moving to pure emerging-market or junk-bond accounts but to investment-grade accounts. I've been to Washington, D.C., twice in the last couple of months to visit with the World Bank, the IMF
International Monetary Fund, U.S. Treasury and the
Fed, and some of the other big investors that are represented are not traditional emerging-market investors. They have been the large insurers and pension funds. And they are analyzing these countries as creditworthy now.
If you want to put a number on this, as recently as three years ago, only about 7% or 8% of the turnover of emerging markets was accounted for by investment-grade buyers. Now that's up to over
TSC: So, is now a good time to invest in emerging markets? But perhaps not Argentina?
I would say yes. It's very, very interesting right now, especially how well the market has acquitted itself
with Argentina, the slowdown of the U.S. economy, the terrorist attacks and a market that's had a reputation for being extremely volatile and risky.