Collective indecision

Email a Friend

All fields are compulsory

Your name:
Your email:

To include more than one recipient, please separate each email address with a semi-colon ';'

Recipient email(s):

Email yourself a copy?
Comments:

Add Your Comment

All comments are subject to editorial review.
All fields are compulsory

Your name:
Your email:
(will not appear)

You may email your comment to a friend
To include more than one recipient, please separate each email address with a semi-colon ';'

Recipient email(s):

Publish your name?
Receive email notification of new comments posted by other users?
Email yourself a copy?

Comments:

I have read and agree to the Terms and Conditions

Collective action clauses have been inserted into bond documentation for nearly as long as bonds have existed. They're still completely standard in bonds issued under London law, and have never been an issue when those bonds come to be priced.
Even bonds issued under New York law include collective action clauses which allow varying percentages of bondholders to change just about any part of the bond documentation, although the payment terms are always excluded.
But despite the fact that the G7 has been pushing for years for CACs to be introduced into all sovereign bonds, it has never happened. The G7 countries themselves have now announced that they will include CACs in all of their own foreign issuance but still no emerging-market sovereign borrower has taken the plunge with respect to any bond issued under New York law. It seems as though there's something of a disconnect between the senior officers of the major investment banks and the people heading their syndicate desks. While the former have largely embraced CACs at this point, the latter still advise their sovereign clients not to be the first country to attempt the introduction of new, non-standard clauses.
Borrowers, their advisers, and even the IMF have all publicly worried about what is known as the first-mover problem: while most countries would be happy to be the tenth sovereign to use CACs, no-one wants to go first. The idea is that putting clauses into bond documentation that seek to make default work-outs more predictable will be seen as an act of bad faith on the part of the issuer. The first time such clauses are included, the issuer will be forced to talk a lot about what would happen in the event it ever defaulted - precisely the sort of talk most issuers quite reasonably try to avoid.

And in an attempt to avoid default, CACs are likely to be designed in such a way that the borrower can start trying to renegotiate the payment terms of the bond without having to miss a payment first. In other words, the issuer can, at any time, essentially give bondholders the choice between accepting a haircut or being defaulted on.
Michael Chamberlin, executive director of the Emerging Market Traders Association (EMTA), says: "One important reason why credit documentation does not typically provide mechanisms for the debtor to initiate restructuring discussions is the concern that any such mechanisms would weaken the enforceability of sovereign emerging market credits even further by implying that neither the creditor nor debtor intended that the credit be enforced."
The threat of litigation only serves to increase the value of bonds, at the margin: at some point, usually when the bonds are extremely cheap, it becomes attractive for aggressive litigants to start buying the debt in the expectation that the courts could deliver more than the asking price. But the prospect of an orderly restructuring and a relatively prompt restitution of regular payments would have the same effect on the market, and wouldn't rely on the existence of a necessarily small number of legal arbitrageurs to support an entire class of debt.
There are other reasons to avoid the introduction of CACs. The most basic is that it weakens bondholders' rights. "If you accept CACs, you're accepting the right to have your legs cut out from under you," says one lawyer. Under many of the collective action clauses now envisaged, a bondholder might not be allowed to sue for his money back if a supermajority of other bondholders didn't want him to. Even if he was allowed to sue, he might be forced to share his proceeds with all other bondholders, making litigation a completely cost-ineffective strategy.
And bondholders are not like banks holding syndicated loans, where there can be a general assumption that what's good for one is good for another. A hedge fund that bought at 25 yesterday might be very happy with a work-out that would be worth 35 next week; a retail investor who bought at par seven years ago would probably reject such an offer out of hand. If a single investor or group of investors controls a supermajority of any given bond issue, then they could strike whatever kind of deal they liked with the issuer, and force everybody else to go along with them.
In fact, the move towards CACs in bonds comes ironically at the same time as the move towards minority rights in emerging-market equity issues: while minority stock investors have more rights than ever before, minority bond investors will soon have much less than they're used to.
But all the same, CACs are now being embraced by the private sector for the first time. Already, the Emerging Market Creditors Association (EMCA) has released its own set of model covenants for insertion into sovereign bonds, and it has joined other private-sector groups in their attempt to construct language that could not only be acceptable but even desirable in bond contracts.
For much of the proposed language is extremely creditor-friendly. Issuers will be required to provide bondholders with more frequent and more detailed macroeconomic information; they will have to pay the costs of any creditor group that bondholders might decide to form at any time; and they will waive, much more specifically than before, a lot of their rights under the Foreign Sovereign Immunities Act.
CACs would also clear up some anomalies in the structure of bonds as they are presently issued. "Bonds issued under New York law have the right of individual action because they were written in the context of a bankruptcy regime, which would trump that right," says EMTA's Chamberlin. Bonds issued with a trustee rather than a fiscal agent don't have a right of individual action, but trustees have fallen out of favour as the bond markets have developed, simply because they're more expensive than fiscal agents. So it's more or less a historical accident that most dollar-denominated sovereign issues can be litigated by individuals even though there's no bankruptcy regime for them: the bonds simply borrowed their language from the corporate world, where bankruptcy did apply.
Page 1 of 2 Next | Single Page

Bank deleveraging has barely started

The US treasury market reaches breaking point

Collective indecision

Email a Friend

Add Your Comment

US treasury market reaches breaking point

US equity market – Short selling: The naked truth

Eksportfinans turns to government for funding

Top 10 financial definitions that are funnier since the credit crunch

Corporate defaults: The LBO zombies set to stalk the market

Why Hank Paulson has failed as Treasury secretary

Middle East real estate debate: Middle East real estate holds its own in unsteady global markets

Plans Look To The New Frontier

Country risk September 2008: Money talks in a world of risk

CLOs: Leaving Las Vegas

US equity market – Short selling: The naked truth

Property markets: Dubai wakes up to reality

US treasury market reaches breaking point

Hands up: who wants to call the bottom of the market?

Latest Issue