Read This If You Think the $700 Billion Bailout Is Bad

No matter how bad it gets here in the United States, we can all take solace in one simple fact: At least we don't live in Argentina.

This is not to say Argentina is a terrible place. The kayaking in the Parana Delta is some of the best in the world, and the wine and steaks are not to be missed (we recommend La Brigada in the San Telmo neighborhood of Buenos Aires). The weather, the people, and the wine and steaks (yes, they're worth mentioning twice) are quite accommodating.

Argentina's problem is its government.

"Dear Argentina: We hate you."
It's a bit of a strange phenomenon that news services often refer to Argentine President Cristina Fernandez de Kirchner as "center-left," given her government's incredibly statist economic policies. In its latest demented move, the Fernandez government announced plans for the state to take over management of Argentina's private pension programs, into which some 3.6 million people make monthly payments.

Argentina's private pensions contain roughly $29 billion and are run by a consortium of banks, including HSBC (NYSE: HBC  ) . Since Argentina's bond default in 2002, the country has been shut out from access to international credit, and as its financial crisis this time around has worsened, the government has become increasingly desperate to find a source of capital to fund its budget deficit.

Well, it found one, but this move is going to severely harm equity holders, bondholders, and pensioners in the process. Argentine sovereign debt dropped on the news and yesterday traded for less than $0.25 on the dollar with an incredible 30% yield. Argentina's MERVAL stock index has dropped about 20% in the past two days as well, since the country's pension funds -- which had been big net buyers of equities -- will no longer be around to support the market if the country's legislature approves this plan.

"Love, your government"
In the past year, as Argentina sought to keep both its economic renaissance and its government's penchant for massive public spending on track, the government mandated that the pensions must keep the majority of their money in Argentine debt and equities to prevent capital flight. Meanwhile, this same government's economic policies, including taxing farmers and limiting exports at a time when commodity trading would have netted them billions in foreign currency, kneecapped the same domestic private industries that could have provided real, long-term wealth generation for this magnificent country.

Reminiscent of the boy who killed his parents and then lamented his plight as an orphan, the government forced the private pensions to invest in Argentine bonds and equities, and then it criticized their managers for poor returns when those same bonds tanked -- because of the government's inability to control its own spending.

These criticisms are but a smokescreen, though. What we believe is happening is that Argentina is having trouble servicing its debt and meeting maturities -- note its recent payment renegotiations with debtholders Citigroup (NYSE: C  ) , Deutsche Bank, and Barclays -- so the government is going after the largest pool to which it has access: the pensions. And just as Argentina renegotiated with these banks on the heels of the pension takeover, so, too, will there probably be a "renegotiation" of the terms between the new pension manager (the Argentine government) and the debtor (uh, the Argentine government). It's an understatement to say that's a conflict of interest, and the folks who will get the short end of the stick are the Argentine people.

More rumblings south of the border
Last week, we reported on the havoc that the recent rise in the U.S. dollar is wreaking on emerging markets. Like any good telenovela, the story continues this week. In the past month, the Mexican peso has depreciated by nearly 19% relative to the U.S. dollar, with most of that slide occurring between Oct. 3 and Oct. 8. In an effort to stop the slide, the Mexican central bank spent 11% of its foreign reserves in three days. To add to the drama, Mexican financial regulators have launched investigations into some of the biggest corporate names in the country.

The massive liquidation of emerging-market assets by U.S. investors looking for security played a large part in the peso's decline. However, a significant portion of the decline appears to have been homegrown. A number of Mexican corporations had bets against the U.S. dollar (anticipating the continued fall of the dollar relative to the peso) and thus contributed to the massive selling of pesos (lower demand for the peso means it is worth less) as they tried to close their positions.

In all, Mexican companies realized more than $2 billion in losses, with Mexico's third-largest supermarket chain, Comercial Mexicana, declaring bankruptcy as a result. Other major Mexican companies, including Cemex (NYSE: CX  ) and Gruma (NYSE: GMK  ) , have reported mark-to-market losses on derivatives of more than $500 million.

For companies with large amounts of debt denominated in foreign currency, using derivatives is a way to protect against a weakening of their local currency and the rising debt costs that would result. However, it becomes a far more sinister affair when companies get greedy and venture outside their areas of expertise to speculate on currency movements simply to try to boost earnings.

Finally, a wee bit of good news
What do Coca-Cola (NYSE: KO  ) , 3M (NYSE: MMM  ) , and Apple (Nasdaq: AAPL  ) have in common? Each U.S. company posted better-than-expected earnings this past week -- amid a painful economic slowdown -- thanks in large part to strong growth abroad.

Coca-Cola CEO Muhtar Kent noted that "the emerging markets continue to drive our growth, more than offsetting the challenges that we are addressing in North America." 3M's record third-quarter revenue of $6.6 billion was driven by a 26% increase in sales in Latin America and a 13% boost in Asia (excluding the effects of a business realignment). And Apple revealed that fully 41% -- or $3.2 billion worth -- of its record quarterly sales came from abroad.

This is not to say it's all doorbells and sleigh bells and schnitzel with noodles out there in the world. In fact, the world is facing a significant economic slowdown, and emerging economies are dealing with the fallout (see above) just as we are in the United States. But as 3M CEO George Buckley told his shareholders this week, "Our diversified global business model has enabled us to weather many economic storms and also to take advantage of opportunities when our competitors could not."

That same lesson applies to investors. Today, despite the risks, it's more important than ever to make sure you diversify across a hefty allocation of international stocks. As these multinationals proved this past quarter, you'll weather this downturn better and put yourself in a position to make more money when the global economy picks back up.

To learn more about investing abroad and read about out top international stock picks for new money now, join our Motley Fool Global Gains service free for 30 days. There is no obligation to subscribe.

Bill Mann is the advisor of Motley Fool Global Gains. Tim Hanson and Nate Weisshaar are Global Gains analysts. Learn more about the stocks they're recommending today by joining the service free for 30 days.

Bill does not own shares of any company mentioned. Tim owns shares of 3M. Nate owns shares of Citigroup. The Motley Fool owns shares of Cemex, which is a Global Gains and Stock Advisor recommendation. Coca-Cola and 3M are Inside Value recommendations. Apple is also a Stock Advisor pick. The Fool's disclosure policy is aghast that Argentina may approve the nationalization of its pension system.


Read/Post Comments (7) | Recommend This Article (12)

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  • Report this Comment On October 23, 2008, at 11:37 AM, andys2i wrote:

    Good advice. With the temporary rise in the US dollar as a safe haven currency ( http://www.savingtoinvest.com/2008/10/us-dollar-rising-and-o... ) people are forgetting about the fact that most of the worlds future growth will come outside of America. With the high dollar it is the best time to invest via funds or ETF's in international companies. You are buying low and when the dollar does start to fall, and it will, the international investments will be where the real returns will come from. The US national debt and structural challenges may be out of focus with all the economic turmoil now, but when the world markets stabalize the dollar will fall.

  • Report this Comment On October 23, 2008, at 2:36 PM, lucas1985 wrote:

    Please, double check your facts before posting misleading and incorrect articles. I'm a 23 yrs old Argentinian and I know what's really happening with the pension system.

    So, let me be your fact checker and let me offer an insight on this issue from a real insider:

    - "the government has become increasingly desperate to find a source of capital to fund its budget deficit."

    Half-true. Argentina has been running twin surpluses (fiscal and trade surpluses) for many consecutive years, a rarity in recent history. But the Treasury earnings will be hammered by the decline in the price of commodities (soybean, wheat, corn, sunflower) and the recent devaluation from our biggest trading partner; Brazil.

    - "Meanwhile, this same government's economic policies, including taxing farmers and limiting exports at a time when commodity trading would have netted them billions in foreign currency"

    False. In fact, commodity trading have netted billions in foreign currency, which allowed our central bank to amass close to 50 billions in international reserves which have been used to pay the debt with the IMF and to keep the local currency stable. The taxes on the exports of commodities only mean that the government keeps a slice of the farmers income which is spent in clientelism, cronyism, public infrastructure and welfare.

    - "What we believe is happening is that Argentina is having trouble servicing its debt and meeting maturities -- note its recent payment renegotiations with debtholders Citigroup, Deutsche Bank, and Barclays"

    False. Those recent payment renegotiations are with debtholders which refused to take part in the debt reestructuring of 2005 (see: http://en.wikipedia.org/wiki/Argentine_debt_restructuring ). Those debtholders are being represented by those investment banks, which are drooling on the huge comissions that they will surely receive.

    - "It's an understatement to say that's a conflict of interest"

    Huh? As far as I known, Social Security in the US is partialy financed by Treasury debt (bonds, letters). At least you have the (theoretical) advantage that the US Treasury is a better debtor.

    Please correct me if I'm wrong on this one.

  • Report this Comment On October 23, 2008, at 5:11 PM, lucas1985 wrote:

    Now on the topic of the pension system

    - The managers of the pension funds have amassed over $12 billions (yes, 12 billions in greenbacks) in management fees, tax-free, risk-free. They keep pocketing management fees (over 2% until recently) even if the funds have subpar performance or lose money

    Doesn't capitalism reward risk? Where's the risk here?

    -Unlike your IRAs and 401(k)s, you're forced to destine a fixed amount of your monthly income (11% for many years, 7% recently) to your pension account and you have no choice of financial instruments. You aren't allowed to manage your own money.

    - Yes, it's true that the government has forced the pension managers for many years to accept government's debt, which has resulted in substantial losses for the net worth of pension funds. Given this situation, what's the difference between state management and private management when the majority of the portfolio holdings (60%) is government debt?

    Also, you still have state-provided Social Security in addition to your personal retirement instruments. For us in the 3rd world, that's a nice paradox of the land of the free market and private initiative.

    Finally, aren't you also scared to death at seeing your 401(k)s vanish into the air as a consequence of the financial meltdown? Even if you're sure that your holdings will recover their value in some time, it isn't funny to see your retirement fund halved. We are equally concerned. Our government plans to take over the pension funds to prevent further losses. Your government is planning some measures to prevent a critical meltdown of your retirement money. Don't you see a connection?

    - Yes, it's true that our government is in dire need of fresh funds (because of the shrinking of the budget surplus), but not for this year. The next year Argentina has to make big payments on interests and maturity on its amoral, ilicit and usurary debt (see below). Those of us who oppose the idiots (and probably thieves) running this country (the president and his husband) suspect that some part of the pension funds will be used to service our debt.

    - The plan to take over the pension funds is that, a plan, not a consumated fact. The proposed law will meet strong resistance in the legislature from the opposition and even from members of the own government's party. Such a big change in the game's rules and decisions that involve the present and future of millons of people won't take place in a blink.

    - The big drop in the MERVAL stock index isn't only caused by the retirement of the pension funds. The Argentine justice has some evidence which points to the pension managers liquidating the assets managed at below-market prices in an attempt to punish the government.

    - Our capital markets have low liquidity and are a big joke, with or without the presence of the pension funds. Some market analysts believe that the market is easily manipulable, even with the current laws which are somewhat good at protecting shareholder rights.

    On the topic of sovereign debt:

    A big part of our national debt is amoral and ilicit. Fifty years ago, our country was almost debt-free. In the wake of the oil crisis of the seventies, the seeds of the debt crisis were sowed. Oil-exporting countries amassed great fortunes and the international financial system was overwhelmed with liquidity. The banks in developed countries were looking for places to put that excess money and they found the borrowers: 3rd world countries, specially Latin America ones. Latin American countries faced soaring importing costs (oil, capital goods), their exports (commodities) were declining in price and their budgets were heading to deficit because of welfare costs, poor management, etc.

    The lenders did a poor job (sometimes grazing criminality). They lended to poor borrowers, kept poor accounting, lended to undemocratic governments, lended to spend on military, etc. But the party was good, because US interest rates were low. The party ended when the Fed raised interest rates to fight inflation. The result: the borrowers defaulted.

    If this sounds similar to the current crisis, it is. Excess liquidity (money from oil-exporting countries in the seventies, artificially low interest rates currently), asset bubbles (oil then, housing now), loose lending standards with criminal elements, unqualified borrowers (3rd world countries with budget deficits and ruled by undemocratic governments in the 70s, subprime households now)

    My country was ruled by a military government from 1976 to 1983, yet it received billions of dollars from the IMF, the World Bank, US banks, the Paris Club and others with no questions and zero oversight. In 1982, the state absorbed private debt (the marvels of the "free market") from many companies, both local and international (Mercedes Benz, GM, Ford and others).

    When the Brady plan was taking place, some banks presented claims which were unsubstantiated. That was possible because of the poor accounting and bookkeeping practices.

    It's widely believe in some scholar and market circles that some countries (Argentina included) have payed the same debt over and over again.

    In 2001, Domingo Cavallo (the same person who transfered corporate liabilities to the state in 1982 and who should spend the rest of his life in jail or be shot in the head) did another debt reestructuring with his friends (see http://www.google.com/search?q=david+mulford+%2B+cavallo ). This reestructuring is being investigated by the justice under the charges of fraud and other things.

    We've been at the mercy of our creditors in the last 25 years. We've been paying amoral interest rates on ilicit debt. We payed parts of our debt over and over again. Investment banks have pocketed huge comissions on endless reestructurations. More info:

    - Veredict of the justice on a case about the debt (Spanish)

    http://www.seprin.com/DEUDA_EXTERNA/Sentencia.htm

    - Summary of the veredict (English)

    http://www.seprin.com/DEUDA_EXTERNA/Resumen.htm

    - In-depth info (Spanish)

    http://www.argentinaoculta.com/deuda/deuda.htm

  • Report this Comment On October 23, 2008, at 5:39 PM, TMFMmbop wrote:

    Apparently, the Argentine government still has enough funds to pay an apologist. I won't rebut all of your points because most of them are inane, but to answer one of your questions, no, I'm not so concerned about our stock market dropping that I would want to government to step in and control my financial future. In fact, I think the government would do an even worse job that I do.

    We agree, however, that it's a shame that Argentina is saddled with so much debt. Unfortunately, the government there continues to make bad decisions when it comes to solving that problem.

  • Report this Comment On October 23, 2008, at 7:51 PM, ironyworks wrote:

    Social Security ( Insecurity) , our national equivalent of a pension fund, has been taxing me, boomer that i am, for about 40 years.

    The prudent thing to do, given the demographic blip, Should have been to invest that $ conservatively.

    Instead, the governing stinkers, spent the funds as they came in and issued layers of promises that somebody in the future would pay us. Yeah, right!

    And we are grousing about Argentina considering the same thing?

    I propose that all politicians be bound to live on the mean national income for the rest of their lives.l IW

  • Report this Comment On October 24, 2008, at 3:13 PM, lucas1985 wrote:

    @ironyworks:

    I agree with everything you said.

    @ TMFMmbop:

    Apparently, your reading skills are down the tube. I identified myself as an oppositor and I called the rulers of my country idiots (because a$$hole wasn't allowed by the content filter) and thieves, yet you call me a government-payed apologist. I live off my own hard work (I work in agribusiness if you're interested in knowing) and I don't need nor want government payolas.

    BTW, the proposed law will meet strong resistance in the parlament, as was the case with the resolution 125:

    http://www.buenosairesherald.com/argentina/note.jsp?idConten...

    I suggest you to brush up your political knowledge of Latin America countries and open your mind to others frameworks of analysis in place of the common prejudices of right-wing ideologies.

  • Report this Comment On October 26, 2008, at 4:24 AM, none0such wrote:

    @lucus1985. You seem to misunderstand this quote form the article or are determining the validity to a different statement:

    - "Meanwhile, this same government's economic policies, including taxing farmers and limiting exports at a time when commodity trading would have netted them billions in foreign currency"

    ...and your words...

    "False. In fact, commodity trading have netted billions in foreign currency, which allowed our central bank to amass close to 50 billions in international reserves which have been used to pay the debt with the IMF and to keep the local currency stable. The taxes on the exports of commodities only mean that the government keeps a slice of the farmers income which is spent in clientelism, cronyism, public infrastructure and welfare."

    I can see why your statements were called inane. This limit on exports - and hence why farmers were not able to make more money in the free market as the article's intent implies - was put in place by your government to keep commodity prices down within Argentina because farmers there would have gained more by exporting as much as possible while consumers in Argentina would have had to pay higher prices because of a lack of supply. External pressure would have caused inflation.

    The bill nationalizing the private pensions will pass only if your Congress sees that the usual Argentine raiding techniques are squashed - comparisons to US Social Security are moot - our SS was in trouble for similar reasons in the past but it is now solid for the next 10 years (however Medicare is in trouble now). Gripping about the government is a given no matter where people live; gripping about an article that gives a different point of view than your own is called inane.

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