Wednesday, August 12, 2015

Very patient investors hope to get paid on Cuban debt

Very patient investors hope to get paid on Cuban debt
"It's like buying fine wine or vintage cars—you need to know the
specific features of each asset well," says one debt holder.
Michelle Caruso-Cabrera | @MCaruso_Cabrera

As the United States prepares to hoist its flag at an embassy in Cuba
for the first time since the late 1950s, a small group of investors lies
in wait, hoping to finally get paid after holding defaulted Cuban debt
for as long as 15 years.

Julian Adams, of London-based Adelante Asset Management, is one of those
investors—a small group of mostly British risk-takers who bought the
debt a decade ago or longer and are now watching political developments
on the communist-run island closely. Adams wouldn't disclose how much he
owns, but with the debt trading at between 8 and 10 cents on the dollar
for more than a 10 years, he owns a lot.

He likens it to a penny stock: "It trades around 10 cents on the dollar
for a very long time. And then when one has the event, which in this
case would be the lifting of the embargo, the debt restructuring, the
economic reforms, then you get a pop in the value of the old debt."

Adams believes the debt, which Cuba stopped paying in 1986, could be
settled for anywhere between 27 cents and 49 cents on the dollar,
depending on the methodology used in a final settlement. For a brief
period during the Clinton administration, when it looked as if relations
were improving, it traded as high 35 cents on the dollar.

Getting paid on very old, defaulted debt isn't without precedent. Iraqi
debt traded for between 8 and 10 cents on the dollar for a decade, and
then settled for roughly 32 cents on the dollar after the U.S. invasion
in 2003. Liberian debt traded for 3 cents on the dollar in the
1990s—creditors received 21 cents on the dollar for it in a 2008 buyback.

"We get asked when we go to Havana: 'Why do you invest in our debt?'
Because they don't like it, really—they try to forget about it. And we
say, 'Because there's nothing else. There's no stock market, there's no
bonds.'"
-Julian Adams, Adelante Asset Management

The portion of Cuba's total debt owned by Adams and hedge fund investors
is impossible to pin down, because it's difficult to ascertain how much
Cuban debt exists in the first place. It comes in many varieties, and
its issuance and payment have sometimes been managed in ways that are
financially unconventional.

Moody's estimated in a June report that Cuba's total external debt
exceeds $20 billion, or 24 percent of the ratings agency's estimate for
Cuban gross domestic product.

"There's a lot of different types of debt. You can buy 25 to 50
different loan agreements all with different jurisdictions and
covenants," said emerging market debt specialist Peter Bartlett, who
estimates that he paid 5 to 10 cents on the dollar for Cuban debt he's
owned for more than 10 years. "It's like buying fine wine or vintage
cars—you need to know the specific features of each asset well."
Another holder of the debt, Nicholas Berry of London-based Stancroft
Trust, said he owns roughly $140 million in face value, which he started
accumulating 15 "long" years ago. There could be as many as five
significant holders, most of them in London because U.S. investors and
firms are prohibited from trading in the debt due to the U.S. embargo
against Cuba.

Berry put the total outstanding face value on Cuba's defaulted debt from
the 1980s at around $1 billion. It's estimated that when past-due
interest is included, the amount could rise to as much as $5 billion.
Complicating that calculation is that some of the debt is denominated in
a currency that don't exist any more—the Deutschemark.

Generally what happens in the case of such debt is the actual principal
is written down sharply—in the case of Iraq, it was slashed by 80
percent—and then investors make money on the accumulated past-due
interest, or what's known in the restructuring world as PDI.

They would not necessarily receive cash. There's precedent for payment
in the form of a financial instrument that "isn't worth a lot right now
but can be extremely valuable in the future," Berry said. For example,
what are known as GDP warrants have been used in other debt
restructuring deals—those are instruments that pay more as the GDP
grows. Another option is a "debt for equity swap," an arrangement under
which debt holders receive equity in some kind of infrastructure or
investment project that they believe will grow in value.

Cuba will want to settle the debt some day, Adams said, because "once
they do that, they regain access to capital markets, which allows them
to issue new debt very cheaply. Their overall cost of financing goes
down drastically, as well for trade finance and other credits."

Both he and Berry see themselves not as vulture investors, but as
investors who are interested in capitalizing on a slow-going reform
process on the island.

"We get asked when we go to Havana: 'Why do you invest in our debt?'
Because they don't like it, really—they try to forget about it," Adams
said. "And we say, 'Because there's nothing else. There's no stock
market, there's no bonds.' " So this is the only way of doing it—of
getting that clear portfolio exposure."

Source: Very patient investors hope to get paid on Cuban debt -
http://www.cnbc.com/2015/08/11/very-patient-investors-hope-to-get-paid-on-cuban-debt.html

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