The Examiners: Sharon Levine on Argentina and Distressed Investors

As Argentina finds itself on the verge of a second default, what blame, if any, does the distressed investing community hold?

In February 2012, certain distressed investor bondholders who held out and did not agree to a debt restructuring and exchange with Argentina won a decision in the U.S. District Court for the Southern District of New York requiring Argentina to pay the holdouts the full amount due under the bonds. The court eventually issued an order enjoining Argentina and all banks who disburse funds on behalf of Argentina from paying those bondholders who consensually agreed to a debt restructuring unless the holdouts were paid the amounts originally due under the bond indenture. Appeals of those decisions were not successful. And now, Argentina finds itself on the possible brink of a default to all bondholders.

The situation has sparked some debate as to whether distressed investors—buying debt at steep discounts from original lenders who are viewed as perhaps more conservative, less risk-adverse and possibly more likely to restructure consensually—are responsible for the predicament in which Argentina finds itself. The thought that the investors who may have traded into the initial debt at a discount and then refused to restructure are to “blame” for this potential default is perhaps unfair.

The pricing in the secondary market for distressed debt is based on various payment risk factors, including the risk as to whether the underlying debt can be restructured without the holders consent. The borrower—here the sovereign country of Argentina, but still a borrower—restructured its debt and accepted the risk (as did those bondholders who agreed to the restructuring) that holdouts could attempt to be a “spoiler” and force Argentina to pay the original amount of the debt.

All parties involved in the earlier restructuring were sophisticated parties who knew or should have known about the potential risks when entering into and pricing the various transactions and trades. Consequently, although there may be unfortunate results if a settlement is not reached and Argentina defaults, it seems hard to conclude that the enforcement of contractual rights makes the distressed investing community responsible for the current financial situation facing Argentina.

Sharon Levine is vice chair of Lowenstein Sandler LLP’s national bankruptcy, financial reorganization and creditors’ rights practice.