The following Ottowa Citizen article about global distressed private-equity firm MatlinPatterson's bid to absorb Nortel is a great example of a savvy firm that knows a profitable opportunity when it sees one. Clearly, Nortel is going down, and Matlin is doing it's best to step it and pick up the pieces, as it were:
OTTAWA — A giant U.S. “vulture” fund is in the hunt for Nortel Networks Corp.
MatlinPatterson Global Advisors, a private-equity investor in distressed companies, says it believes Nortel can still survive as a free-standing company and does not have to be auctioned off in pieces.
It must put together a competing bid by July 21 for a court-sanctioned auction July 24, in which NSN so far is the only bidder.
MatlinPatterson lost an attempt in a U.S. bankruptcy court this week for a 15-day extension to the official bidding process in the US$650-million sale of most Nortel wireless assets to Nokia Siemens Networks. Nortel and NSN hope to close the sale July 29.
“We are working very hard to respond to the bidding process established by the court,” Jennifer Feldsher, the lawyer representing MatlinPatterson, said Tuesday.
“We are moving heaven and earth to put ourselves in a position where we can participate.”
Matlin, which Fortune magazine has called “the Babe Ruth of vulture investing,” is an expert at sniffing out value in troubled markets, buying depressed debt at low prices and fighting battles in bankruptcy courts to maximize returns.
It calls itself “a global distressed private-equity firm” with offices in New York, Hong Kong and London.
It disclosed in a U.S. bankruptcy court filing that it holds US$400-million US in Nortel bonds, or about 10% of Nortel debt.
In filings with the U.S. bankruptcy court, MatlinPatterson said the quick bidding process could “seal Nortel’s fate by limiting the rights of current creditors (and other prospective bidders) to propose options less drastic than a wholesale liquidation of one of the world’s telecommunications giants.”
It noted that Nortel is far from being a “wasted asset” with cash reserves of US$2.7-billion as of June 6, US$220-million higher than at the start of the bankruptcy-protection process in January.
Nortel “has been making money in these Chapter 11 (bankruptcy protection) cases, not losing it,” the filing said. “That is no small feat in this depressed economic market and signals that Nortel’s core business and platforms are strong, may have a future, and certainly deserve more consideration and the benefit of the doubt.”
It said the short bidding period will let NSN “lock down these valuable core assets.”
U.S. bankruptcy court judge Kevin Gross rejected the MatlinPatterson bid for an extension, citing concerns that NSN could walk away or cut its price if the deal is delayed.
However, he did make some changes to the bidding process, including making the reorganization of Nortel, as well as the sale of all assets, acceptable bidding options.
He also ruled that NSN has to top, not simply match, competing bids to win the wireless assets.
Nortel employees could favour the NSN takeover because it plans to hire 80% of the 3,100 employees supporting the wireless operations.
But the $650-million price is low at just 25% of 2008 product and service revenues.
A bidding war would be a welcome outcome for Nortel pensioners, ex-employees seeking severance, suppliers denied payment and bondholders. They now face the prospect of huge losses if all Nortel assets are sold for US$2.5-billion or less.
Ottawa Citizen
Friday, July 10, 2009
Monday, June 22, 2009
Fair and Balanced?
In a blog post from last week, Reuters blogger Felix Salmon writes about the (often misleading) coverage of hedge funds by the media, in particular citing a Bloomberg article about an irrelevant and utterly "out there" hedge fund.
He writes: "But more to the point, why is Bloomberg writing about these guys, given that they have zero demonstrated ability to get taken seriously by anybody with real money to invest? The reporter, Netty Ismail, quotes the co-founder of the firm as saying with a straight face that $100 million would be a “good” amount to raise, despite the fact that there’s no indication whatsoever that he’s raised anything like that sum in the past. If a well-known fund manager with a proven track record came out with a fund like this, that might be interesting. But this looks like little more than a marketing gimmick, designed — successfully, it would seem — to get press.
Incidentally, it would be nice if anybody writing about small and startup hedge funds did a bit of due diligence on them first. Before writing about firms like this as though they’re legitimate, any reporter should first confirm that they are legitimate — perhaps by asking to speak to their prime broker or asking to see some audited accounts for prior years. Otherwise, what’s to stop any old fraudster from calling himself a hedge fund, getting a couple of credulous Bloomberg stories, raising a few million, and retiring to the beach?"
This post got me thinking about how the media covers both hedge funds and vulture funds. Often, articles or blogs are written and published without giving equal weight to both sides. What happened to "fair and balanced"?
He writes: "But more to the point, why is Bloomberg writing about these guys, given that they have zero demonstrated ability to get taken seriously by anybody with real money to invest? The reporter, Netty Ismail, quotes the co-founder of the firm as saying with a straight face that $100 million would be a “good” amount to raise, despite the fact that there’s no indication whatsoever that he’s raised anything like that sum in the past. If a well-known fund manager with a proven track record came out with a fund like this, that might be interesting. But this looks like little more than a marketing gimmick, designed — successfully, it would seem — to get press.
Incidentally, it would be nice if anybody writing about small and startup hedge funds did a bit of due diligence on them first. Before writing about firms like this as though they’re legitimate, any reporter should first confirm that they are legitimate — perhaps by asking to speak to their prime broker or asking to see some audited accounts for prior years. Otherwise, what’s to stop any old fraudster from calling himself a hedge fund, getting a couple of credulous Bloomberg stories, raising a few million, and retiring to the beach?"
This post got me thinking about how the media covers both hedge funds and vulture funds. Often, articles or blogs are written and published without giving equal weight to both sides. What happened to "fair and balanced"?
Tuesday, June 16, 2009
A Deeper Look
Last June, the Conde Nast's Portfolio magazine printed an in-depth article about vulture funds, profiling a few of the most well-known fund managers. The article explained how the men, Paul Singer, Kenneth Dart and Michael Sheehan, became involved in the business, and also explained why the funds typically have such a bad rap.
Excerpts from the article follow:
Despite what some think, Paul Singer is not the devil, and the only horns he has are for navigating midtown traffic. An aggressively low-profile 63-year-old billionaire and supporter of conservative causes, Singer is a bespectacled, gray-bearded man who shies away from being photographed but has rarely ducked controversy. Singer’s main claim to notoriety is Elliott Associates, a $10 billion New York-based hedge fund he founded in 1977. It is Elliott’s affiliation with Kensington International, a so-called vulture fund (which represents about 1 percent of the hedge fund’s total business), that has led many to claim that Singer has bright red skin, a very long tongue, and a forked tail. He’s part of a new generation of investors—the vultures—who buy up the defaulted debt of developing countries on the cheap, then sue to recover 10 or 15 times what they paid for the notes. It’s a very good business, if you don’t mind being attacked by Congress, mauled in the press, and treated as a pariah by the do-gooders leading the global antipoverty movement...
[Michael] Sheehan spent a significant part of his career running a nonprofit organization that helped poor countries find creative ways to reduce their debt. In the 1990s, his group arranged debt-for-equity swaps, through which a country could convert its liabilities into partnerships for forestry projects, orphanages, programs to treat such diseases as river blindness, and HIV-AIDS education. Sheehan estimates that he raised about $40 million in Africa, Asia, and Latin America between 1992 and 1996.
Then, in 1999, Sheehan parlayed his expertise into an opportunity to make big money. He found out about an obscure 20-year-old loan that Romania had made to Zambia, which used the money to purchase $15 million worth of Romanian-made tractors, trucks, and police vehicles. (“It was a bad deal for us,” says David Ndopu, a top official in the Zambian Ministry of Finance. “The police vehicles broke down after six months and just sat around in parking lots.”) Zambia had been trying to negotiate with Romania for a partial forgiveness, but talks broke off in early 1999. That’s when Donegal stepped in. Its representatives persuaded Romania to sell them the debt at a deep discount—$3.3 million.
In Lusaka, Zambia’s dilapidated capital, I stop by the office of David Ndopu, who has closely followed the Donegal case. Faced with the aggressive pursuit and seizure of its assets, the Zambian government transferred $15 million—1 percent of its annual budget—to Donegal from a British bank account in October. “It was very painful,” Ndopu says. But it is hard to see how Zambia’s increased financial burden is going to make things worse for the average Zambian. Musonda Kapena, who runs a humanitarian-aid agency in the countryside north of Lusaka, tells me that so little money is reaching rural Zambia—where most of the population lives—that $15 million more would hardly make a difference. In August 2006, as schools were desperately trying to obtain a few more pieces of chalk for their blackboards, Zambia paid $7 million for its president, Levy Mwanawasa (who is still in power), to lease an Italian-made twin-turbine AB-139 Agusta helicopter.
Vultures and their defenders say that’s the kind of government expenditure their lawsuits can expose. Kensington’s lawyers dug up persuasive evidence of presidential profligacy in Congo to bolster their claim that vultures serve an important role. While these sorts of arguments don’t necessarily relate to the debt debate, they help the vultures’ case. Among the damning details in the Kensington case: During a United Nations conference in 2006, Congolese president Denis Sassou Nguesso and his entourage ran up a $100,000 bill at Manhattan’s Waldorf-Astoria hotel. The room-service bill for Sassou Nguesso alone came to $20,000 and included many bottles of the finest champagne. Kensington’s investigators also unearthed credit-card bills of one of the president’s sons, who ran the state oil company, showing large purchases at Christian Dior, Gucci, and Louis Vuitton. Even in Congo, some nongovernmental organizations have reluctantly embraced the vultures as the only forces capable of effecting change in the country.
The "lesser of two evils" concept is an interesting one...how sad that these countries are in such a despicable financial state of affairs that getting sued for their debt is actually helpful!
Excerpts from the article follow:
Despite what some think, Paul Singer is not the devil, and the only horns he has are for navigating midtown traffic. An aggressively low-profile 63-year-old billionaire and supporter of conservative causes, Singer is a bespectacled, gray-bearded man who shies away from being photographed but has rarely ducked controversy. Singer’s main claim to notoriety is Elliott Associates, a $10 billion New York-based hedge fund he founded in 1977. It is Elliott’s affiliation with Kensington International, a so-called vulture fund (which represents about 1 percent of the hedge fund’s total business), that has led many to claim that Singer has bright red skin, a very long tongue, and a forked tail. He’s part of a new generation of investors—the vultures—who buy up the defaulted debt of developing countries on the cheap, then sue to recover 10 or 15 times what they paid for the notes. It’s a very good business, if you don’t mind being attacked by Congress, mauled in the press, and treated as a pariah by the do-gooders leading the global antipoverty movement...
[Michael] Sheehan spent a significant part of his career running a nonprofit organization that helped poor countries find creative ways to reduce their debt. In the 1990s, his group arranged debt-for-equity swaps, through which a country could convert its liabilities into partnerships for forestry projects, orphanages, programs to treat such diseases as river blindness, and HIV-AIDS education. Sheehan estimates that he raised about $40 million in Africa, Asia, and Latin America between 1992 and 1996.
Then, in 1999, Sheehan parlayed his expertise into an opportunity to make big money. He found out about an obscure 20-year-old loan that Romania had made to Zambia, which used the money to purchase $15 million worth of Romanian-made tractors, trucks, and police vehicles. (“It was a bad deal for us,” says David Ndopu, a top official in the Zambian Ministry of Finance. “The police vehicles broke down after six months and just sat around in parking lots.”) Zambia had been trying to negotiate with Romania for a partial forgiveness, but talks broke off in early 1999. That’s when Donegal stepped in. Its representatives persuaded Romania to sell them the debt at a deep discount—$3.3 million.
In Lusaka, Zambia’s dilapidated capital, I stop by the office of David Ndopu, who has closely followed the Donegal case. Faced with the aggressive pursuit and seizure of its assets, the Zambian government transferred $15 million—1 percent of its annual budget—to Donegal from a British bank account in October. “It was very painful,” Ndopu says. But it is hard to see how Zambia’s increased financial burden is going to make things worse for the average Zambian. Musonda Kapena, who runs a humanitarian-aid agency in the countryside north of Lusaka, tells me that so little money is reaching rural Zambia—where most of the population lives—that $15 million more would hardly make a difference. In August 2006, as schools were desperately trying to obtain a few more pieces of chalk for their blackboards, Zambia paid $7 million for its president, Levy Mwanawasa (who is still in power), to lease an Italian-made twin-turbine AB-139 Agusta helicopter.
Vultures and their defenders say that’s the kind of government expenditure their lawsuits can expose. Kensington’s lawyers dug up persuasive evidence of presidential profligacy in Congo to bolster their claim that vultures serve an important role. While these sorts of arguments don’t necessarily relate to the debt debate, they help the vultures’ case. Among the damning details in the Kensington case: During a United Nations conference in 2006, Congolese president Denis Sassou Nguesso and his entourage ran up a $100,000 bill at Manhattan’s Waldorf-Astoria hotel. The room-service bill for Sassou Nguesso alone came to $20,000 and included many bottles of the finest champagne. Kensington’s investigators also unearthed credit-card bills of one of the president’s sons, who ran the state oil company, showing large purchases at Christian Dior, Gucci, and Louis Vuitton. Even in Congo, some nongovernmental organizations have reluctantly embraced the vultures as the only forces capable of effecting change in the country.
The "lesser of two evils" concept is an interesting one...how sad that these countries are in such a despicable financial state of affairs that getting sued for their debt is actually helpful!
Friday, June 12, 2009
The History of Vulture Funds
I found the following brief history of vulture funds from the University of Iowa's Center for International Finance and Development helpful--hope you do too:
Vulture funds were generally non-existent until the mid-1990s due to how sovereign debt was held. Sovereign debt traditionally had been held by bank syndicates, and these syndicates understood that a rush to collect debt immediately or a holdout by any creditor would serve none of their interests. Furthermore, these banks shared some common interests, such as a desire to secure future business from these debtor countries and a desire to follow the desires of bank regulators. Filing lawsuits to enforce debts would be contrary to those interests, and therefore, the banks stopped litigation by exerting peer pressure on fellow institutions. Creditors, therefore, did not sue to enforce debts. Any holdout creditor or vulture fund would be blacklisted from international banking. Furthermore, many national governments also prevented debt holders from embarking upon a road towards becoming vulture funds. For example, banks progressing down a road towards becoming holdouts might be called by a governmental bank regulator, and be threatened with a financial audit and review.
By the mid 1990s, however, much of the syndicated debts had been converted to freely-traded sovereign bonds. In the early 1980s there was a major debt crisis in Latin America. The crisis begin in 1982, and from 1982 until 1989, there was a long period of restructuring sovereign debt. Many of these debts were held as unsecured syndicated bank loans. It was clear that by 1989, and despite the restructuring plans, the Latin American states were not in any better financial health. In response, U.S. Treasury Secretary Nicholas F. Brady designed the “Brady Plan” in an attempt to address the Latin American debt crisis in March 1989. Under the Brady system, loans were exchanged for sovereign bonds that could be freely traded. By 1998, it was evident that sovereign debt had converted from syndicated bank loans to securitized bonds. Brady bonds have become a generic term for bonds issued during sovereign debt restructuring, but specifically refer to the exchange of commercial bank loans for bond instruments.
With the creation of the sovereign bond market, non-bank investors began to hold substantial amounts of sovereign debt. Such investors with divergent interests were growing in number and became increasingly difficult to manage. This eliminated the peer and regulatory pressures on holdouts. Therefore, without these pressures, there was less reason for creditors to follow the old rules.
Vulture funds were generally non-existent until the mid-1990s due to how sovereign debt was held. Sovereign debt traditionally had been held by bank syndicates, and these syndicates understood that a rush to collect debt immediately or a holdout by any creditor would serve none of their interests. Furthermore, these banks shared some common interests, such as a desire to secure future business from these debtor countries and a desire to follow the desires of bank regulators. Filing lawsuits to enforce debts would be contrary to those interests, and therefore, the banks stopped litigation by exerting peer pressure on fellow institutions. Creditors, therefore, did not sue to enforce debts. Any holdout creditor or vulture fund would be blacklisted from international banking. Furthermore, many national governments also prevented debt holders from embarking upon a road towards becoming vulture funds. For example, banks progressing down a road towards becoming holdouts might be called by a governmental bank regulator, and be threatened with a financial audit and review.
By the mid 1990s, however, much of the syndicated debts had been converted to freely-traded sovereign bonds. In the early 1980s there was a major debt crisis in Latin America. The crisis begin in 1982, and from 1982 until 1989, there was a long period of restructuring sovereign debt. Many of these debts were held as unsecured syndicated bank loans. It was clear that by 1989, and despite the restructuring plans, the Latin American states were not in any better financial health. In response, U.S. Treasury Secretary Nicholas F. Brady designed the “Brady Plan” in an attempt to address the Latin American debt crisis in March 1989. Under the Brady system, loans were exchanged for sovereign bonds that could be freely traded. By 1998, it was evident that sovereign debt had converted from syndicated bank loans to securitized bonds. Brady bonds have become a generic term for bonds issued during sovereign debt restructuring, but specifically refer to the exchange of commercial bank loans for bond instruments.
With the creation of the sovereign bond market, non-bank investors began to hold substantial amounts of sovereign debt. Such investors with divergent interests were growing in number and became increasingly difficult to manage. This eliminated the peer and regulatory pressures on holdouts. Therefore, without these pressures, there was less reason for creditors to follow the old rules.
History of Vulture Funds
Vulture funds were generally non-existent until the mid-1990s due to how sovereign debt was held. Sovereign debt traditionally had been held by bank syndicates, and these syndicates understood that a rush to collect debt immediately or a holdout by any creditor would serve none of their interests. Furthermore, these banks shared some common interests, such as a desire to secure future business from these debtor countries and a desire to follow the desires of bank regulators. Filing lawsuits to enforce debts would be contrary to those interests, and therefore, the banks stopped litigation by exerting peer pressure on fellow institutions. Creditors, therefore, did not sue to enforce debts. Any holdout creditor or vulture fund would be blacklisted from international banking. Furthermore, many national governments also prevented debt holders from embarking upon a road towards becoming vulture funds. For example, banks progressing down a road towards becoming holdouts might be called by a governmental bank regulator, and be threatened with a financial audit and review.
By the mid 1990s, however, much of the syndicated debts had been converted to freely-traded sovereign bonds. In the early 1980s there was a major debt crisis in Latin America. The crisis begin in 1982, and from 1982 until 1989, there was a long period of restructuring sovereign debt. Many of these debts were held as unsecured syndicated bank loans. It was clear that by 1989, and despite the restructuring plans, the Latin American states were not in any better financial health. In response, U.S. Treasury Secretary Nicholas F. Brady designed the “Brady Plan” in an attempt to address the Latin American debt crisis in March 1989. Under the Brady system, loans were exchanged for sovereign bonds that could be freely traded. By 1998, it was evident that sovereign debt had converted from syndicated bank loans to securitized bonds. Brady bonds have become a generic term for bonds issued during sovereign debt restructuring, but specifically refer to the exchange of commercial bank loans for bond instruments.
With the creation of the sovereign bond market, non-bank investors began to hold substantial amounts of sovereign debt. Such investors with divergent interests were growing in number and became increasingly difficult to manage. This eliminated the peer and regulatory pressures on holdouts. Therefore, without these pressures, there was less reason for creditors to follow the old rules.
Vulture funds were generally non-existent until the mid-1990s due to how sovereign debt was held. Sovereign debt traditionally had been held by bank syndicates, and these syndicates understood that a rush to collect debt immediately or a holdout by any creditor would serve none of their interests. Furthermore, these banks shared some common interests, such as a desire to secure future business from these debtor countries and a desire to follow the desires of bank regulators. Filing lawsuits to enforce debts would be contrary to those interests, and therefore, the banks stopped litigation by exerting peer pressure on fellow institutions. Creditors, therefore, did not sue to enforce debts. Any holdout creditor or vulture fund would be blacklisted from international banking. Furthermore, many national governments also prevented debt holders from embarking upon a road towards becoming vulture funds. For example, banks progressing down a road towards becoming holdouts might be called by a governmental bank regulator, and be threatened with a financial audit and review.
By the mid 1990s, however, much of the syndicated debts had been converted to freely-traded sovereign bonds. In the early 1980s there was a major debt crisis in Latin America. The crisis begin in 1982, and from 1982 until 1989, there was a long period of restructuring sovereign debt. Many of these debts were held as unsecured syndicated bank loans. It was clear that by 1989, and despite the restructuring plans, the Latin American states were not in any better financial health. In response, U.S. Treasury Secretary Nicholas F. Brady designed the “Brady Plan” in an attempt to address the Latin American debt crisis in March 1989. Under the Brady system, loans were exchanged for sovereign bonds that could be freely traded. By 1998, it was evident that sovereign debt had converted from syndicated bank loans to securitized bonds. Brady bonds have become a generic term for bonds issued during sovereign debt restructuring, but specifically refer to the exchange of commercial bank loans for bond instruments.
With the creation of the sovereign bond market, non-bank investors began to hold substantial amounts of sovereign debt. Such investors with divergent interests were growing in number and became increasingly difficult to manage. This eliminated the peer and regulatory pressures on holdouts. Therefore, without these pressures, there was less reason for creditors to follow the old rules.
Monday, June 8, 2009
Swooping in to Help Troubled Homeowners
Lately it seems that many, if not all, conversations about the economy circle back to the housing market as a major contributor to the overall instability that triggered the recession. Although many vulture funds function in emerging markets, the following Bloomberg story from last year is an example of some domestic vulture funds that are helping to curb the foreclosure crisis on domestic soil.
Feb. 28 (Bloomberg) -- A muddy gravel road winds uphill through a redwood forest to Jake Terhune's $985,000 home just outside of Geyserville, in the heart of California's Sonoma County wine region. Terhune, 28, a self-employed cabinetmaker with tattoo-covered arms and a ginger goatee, put down $100,000 and agreed to pay about $6,900 a month for 30 years to buy the three-bedroom house in 2006.
Things started going wrong almost immediately after he moved in. Demand for Terhune's custom cabinetry dried up. His business's income, which had been about $20,000 a month, plunged 50 percent.
After making his first payment, he fell behind. Unable to persuade Irvine, California-based Ameriquest Mortgage Co. to modify his loan, he stopped paying and ignored calls threatening to take his home. By the summer of 2007, Ameriquest, once the biggest home lender to people with credit problems, put the loan up for sale.
``I was working on two houses, but they got foreclosed,'' Terhune says. ``If my customers can't pay what they owe me, the mortgage company can't get what I owe them.''
That's when Ralph Dellacamera got involved. Dellacamera, 54, is a hedge-fund manager with years of experience in vulture investing, the strategy of buying assets at distressed prices in an effort to profit when prices recover.
He is one of several investors -- among them Goldman Sachs, the world's biggest securities firm; private equity firm Equifin Capital Partners; and billionaire Wilbur Ross -- seeking to make money from the collapse of the subprime mortgage market while helping borrowers hold on to their homes.
Handling the Paperwork
By purchasing loans for as little as 50 cents on the dollar and then collecting the payments and handling the paperwork, Dellacamera can cut costs enough to offer easier terms and still make a profit, he says. Once borrowers have re-established themselves, the loans can be resold in the secondary market at a 15-20 percent gain.
``If you get the servicing right, you can make money from these mortgages,'' he says during an interview in his 33rd-floor offices in midtown Manhattan. ``We win if the homeowner gets to stay in their home.''
National Asset Direct Inc., a company set up by Dellacamera's New York-based hedge fund firm, Dellacamera Capital Management LLC, bought Terhune's mortgage last year for 69 cents on the dollar and made him an offer he couldn't refuse: In return for a $25,000 lump sum and four monthly payments at the original level, it would cut the interest rate to 6.5 percent from 8.9 percent, lowering the monthly payment to $5,174.
$150 Million of Loans
Dellacamera says he and an investor in his fund he declined to identify have put $102 million into New York-based National Asset Direct since it opened in October 2006. The company, staffed by mortgage industry veterans, has used $75 million to acquire loans with a face value of $150 million.
Through January, the return on investments that have been liquidated exceeded 20 percent, Dellacamera says. He is planning to raise $1 billion from investors willing to bet there's money to be made from the mortgage mess, one loan at a time.
The number of U.S. homeowners behind on their payments hit a 21-year high in the third quarter of 2007, according to the Mortgage Bankers Association, a Washington-based trade group. The share of all home loans with payments more than 30 days late rose to a seasonally adjusted 5.6 percent. New foreclosures hit an all-time high of 1.69 percent of loans outstanding.
Home prices had their biggest fourth-quarter drop since 1991, according to the Office of Federal Housing Enterprise Oversight. An estimated 1.35 million homes went into the foreclosure process last year and 1.44 million more are headed that way in 2008, the mortgage bankers' group says. That's up from 705,000 in 2005.
In Everyone's Interest
``Defaults are at a record level,'' says Douglas Duncan, formerly the association's chief economist. ``It's in the interest of lenders, and owners, to modify the loans,'' says Duncan, who earlier this week was named chief economist of Fannie Mae, the largest U.S mortgage-finance company.
The collapse of the subprime mortgage market has led to more than $174 billion of asset writedowns and credit losses at securities firms and banks since the beginning of 2007. It also cost the jobs of Merrill Lynch & Co. Chief Executive Officer Stan O'Neal and his Citigroup Inc. counterpart, Charles Prince. More than 100 mortgage companies have filed for bankruptcy, been acquired or closed their operations.
The full impact may not be felt until low introductory ``teaser'' interest rates expire and push up borrowing costs. Interest rates are to reset this year on $362 billion of adjustable-rate subprime mortgages, according to research by Bank of America Corp. The Charlotte, North Carolina-based bank agreed in January to buy Countrywide Financial Corp., the nation's biggest mortgage company, for about $4 billion -- a sixth of the Calabasas, California-based company's value a year earlier.
`Being Long and Wrong'
Trying to make money in a market that is still falling is risky.
``The penalty for being long and wrong could still be extremely costly,'' says Anoop Dhakad, director of business development at MKP Capital Management LLC, a New York-based hedge fund manager with $5 billion in assets. ``Some of us are waiting on the sidelines until the bottom becomes a bit more apparent.''
Dellacamera and the other investors now picking through the subprime mortgage debris are betting nimble players can take advantage of the crisis.
``There is about half a trillion dollars of impaired loans that need to be fixed,'' says Mani Sadeghi, a managing partner at New York-based Equifin Capital Partners. That total includes both subprime mortgage and loans made to more creditworthy borrowers. ``Some will be resolved successfully; others, not.''
The key is servicing, Sadeghi, 44, says.
Linking Borrowers, Investors
``Servicing is the only direct interface between borrowers who want to protect their homes and the investors who have extended credit to them,'' he says.
Under normal circumstances, mortgage servicing is a humdrum activity. The servicer collects the borrower's interest and principal payments -- and taxes and insurance premiums in some cases -- and channels the money to lenders. It also maintains paperwork, follows up with late payers to resolve delinquency problems and, when necessary, initiates foreclosure proceedings.
Mortgage servicing companies earn fees of as much 25 basis points, or a quarter of a percentage point, on a prime loan, says Dan Measell, co-founder of Mortgage Dynamics Inc., a McLean, Virginia-based advisory company.
``For loans that are delinquent, the rate is much higher because the servicer will have to do more work.''
Pocketing Fee Income
By taking on the servicing themselves, investors buying delinquent mortgages get to pocket a stream of fee income while restructuring the loan to help the borrowers. That's particularly important at a time when property values are still falling and foreclosures are rising.
``Servicing is where the rubber meets the road,'' says Ron Greenspan, senior managing director at Baltimore-based FTI Consulting Inc. The company acted as an adviser to creditors in the bankruptcies of lenders including Irvine, California-based New Century Financial Corp., the biggest subprime mortgage lender to seek court protection.
``If you do it right, it'll give you an opportunity to maximize how you manage your investment in loans,'' Greenspan says.
National Asset Direct started out by hiring Quantum Servicing Corp., a unit of Shelton, Connecticut-based Clayton Holdings Inc., to service mortgages it bought. More recently, it created iServe Servicing Inc. in Irving, Texas, and has been moving business there.
Equifin led a group of investors including New York-based hedge fund firm Och-Ziff Capital Management Group LLC, an Equifin limited partner, in January 2007 to set up Residential Credit Solutions Inc. The Fort Worth, Texas-based company invests in mortgages and distressed loans. Equifin also acquired a home-loan billing and collections unit from San Diego-based Accredited Home Lenders Holding Co. and developed a servicing unit in-house.
`Judgment-Intensive Business'
``Servicing is now a judgment-intensive business,'' Sadeghi says. ``You have to know the mortgage markets, know when to modify the loans and have the system and technology to monitor the loans.''
Goldman Sachs, which earned a record $11.6 billion in fiscal 2007 partly by betting on declines in the subprime mortgage market, scooped up Litton Loan Servicing LP in December. The Houston-based company, which specializes in collecting payments from delinquent borrowers, was purchased from subprime mortgage investor Credit-Based Asset Servicing & Securitization LLC. Terms weren't announced.
Goldman Sachs CEO Lloyd Blankfein said at an investor conference in November that his company had raised $4.5 billion for two funds to take advantage of distress opportunities in the credit market.
``A premium is being placed on quality servicing capabilities for which Litton is very well known,'' Michael DuVally, a spokesman for Goldman in New York says. He declined to comment further or to make Litton executives available for an interview. ``This is not the time for profiles to be raised,'' he says.
Former Bankruptcy Adviser
Then there's Ross, who heads New York-based private equity firm WL Ross & Co. The 70-year-old former Rothschild Inc. bankruptcy adviser turned a $310 million investment in steelmaker LTV Corp. in 2001 into $4.5 billion in 2004 after he sold to Indian billionaire Lakshmi Mittal. Now he's getting into mortgage servicing.
Ross paid about $500 million in October to buy the home loan servicing unit of American Home Mortgage Investment Corp., a Melville, New York-based subprime lender that declared bankruptcy last August. The unit will be collecting payments on about $50 billion of mortgages, Ross says. He also joined with Richard Branson's Virgin Group Ltd. in an unsuccessful bid for Northern Rock Plc, a Newcastle, England-based lender nationalized by the British government in February after being bailed out by the Bank of England.
``I hope we are not too early,'' Ross says. ``The turmoil could last for a few years.''
Decade on Wall Street
Financial turbulence isn't new to Dellacamera. He worked as a longshoreman to pay his tuition at the University of New Haven, from which he graduated in 1975 with an undergraduate degree in marketing. After a decade on Wall Street at firms including Paine Webber Group Inc., he joined New York-based Elliott Associates LP in 1986.
Elliott is a hedge fund firm founded by Paul Singer that acquires distressed debt at a discount and demands full payment. Dellacamera started doing convertible arbitrage. In this strategy, a fund buys convertible bonds -- securities that can be exchanged for company shares -- while selling short the underlying stocks. Investors using this technique make money if the convertible is mispriced relative to the stock.
Elliott later switched strategies, buying debt of bankrupt companies such as savings and loans during the S&L crisis in the late 1980s.
``We made a lot of money,'' says Dellacamera, who became the firm's head trader and senior risk manager.
Specializing in Derivatives
Dellacamera left in 1999 to set up a broker-dealer firm, then sold his interest to a partner after a couple of years to get back into money management.
He went to work at Maxcor Financial Group Inc., a company specializing in derivatives, which are financial instruments whose value is derived from assets including stocks, bonds and currencies or from such events as changes in interest rates. Dellacamera, who became a managing director and head of the leveraged-finance division, left in September 2005, after Maxcor was acquired by a unit of New York-based Cantor Fitzgerald LP.
Dellacamera started his hedge fund in January 2006 with about $25 million in capital. It now has more than $400 million, he says.
``We are an opportunistic situational fund, looking to influence events, such as a bankruptcy,'' he says. The fund buys distressed corporate debt and then works with the company management to get a higher return. ``The rate of return is greater if you can restructure so that the loan performs,'' he says.
Eight-Hour Meeting
The decision to branch out into delinquent mortgages came after Dellacamera and Jeff Kaplan, a senior portfolio manager, met in March 2006 with Louis Amaya and Matt Stadler of General Motors Acceptance Corp., who were trying to sell a portfolio of 200 distressed mortgages. General Motors Corp. sold a majority stake in the auto and mortgage lender, now known as GMAC LLC, later that year. After an eight-hour meeting, Dellacamera and Kaplan, 39, still had questions.
``I asked them, `If you were in our position, would you buy this portfolio?''' Dellacamera recalls.
Amaya says he and Stadler said it probably wouldn't be prudent for Dellacamera Capital to purchase the loans without knowing how to manage the risk.
``At the same time, we communicated that for guys like Matt and I who had the local relationships and understood how to manage the risk, there was some money to be made,'' Amaya says.
Instead of buying the loans, Dellacamera offered Amaya and Stadler the job of setting up a company to buy delinquent mortgages and fix them.
New Century's Furniture
Amaya, 42, National Asset Direct's chief operating officer, located the company's portfolio management team in San Diego -- in a redbrick office building about 17 miles (27 kilometers) north of downtown, where space was available because of job cuts at Countrywide Financial. The furniture came from neighboring New Century, the subprime lender that had filed for bankruptcy weeks earlier.
``It was almost like free,'' Amaya says.
Amaya and Robert Willis, director of asset management, weigh the merits of pools of distressed mortgages being offered by mortgage companies and banks. The price is discounted based on factors such as loan-to-value ratio, the property's location and the borrower's credit score and bankruptcy status, says Stadler, 31, the firm's chief financial officer.
Change of Heart
``We've had sellers who didn't like our values and walked off but came back three months later to make the deal.''
Once a loan is acquired, the goal is to develop a restructuring plan to head off foreclosure.
``When a borrower shows commitment to work things out, that's a good sign,'' says Bradley Staley, who heads loss mitigation at the iServe Servicing arm. ``If there is a commitment to stay and an ability to pay, we can always work things out.''
In an office in Irving on a January afternoon, Staley, 28, is discussing a loan with a delinquent borrower over a speakerphone. The homeowner is hesitant; there are silences. Staley pushes for more information about his income and expenses.
The borrower, who declined to have his name made public, owes about $11,000. A self-employed van driver, he says $25,000 of merchandise was taken from his truck and he had to make good on the loss before he could resume mortgage payments. Traditional mortgage servicers typically want to see a borrower fail at three separate loan plans before offering to modify a loan.
`Quite a Cushion'
Staley doesn't wait. He offers to reduce the interest payment by 1 percentage point, in effect cutting the monthly payments by $200. He also holds out the incentive of further loan modification after four months.
``We have bought these portfolios at a discount, so we have quite a cushion,'' Staley says. ``We want to make good decisions quickly.''
Amaya and Stadler say they'll be able to resell mortgages once homeowners re-establish their creditworthiness. After a delinquent borrower makes six consecutive payments, the loan can be tagged as ``reperforming'' and sold for a gain of 15-20 percentage points, according to Stadler. National Asset Direct also has plans to develop a lending unit to originate mortgages. ``We may want to refinance our clients,'' Stadler says.
As the subprime collapse continues to reverberate throughout the real estate market, it's affecting homeowners far beyond the core states of Ohio, Indiana and Michigan. Six California cities were among the 20 U.S. metropolitan areas with the most foreclosures in 2007, according to RealtyTrac Inc., an Irvine, California, research firm with a database of more than 1 million properties.
California and Florida
``When we started, we never expected to see properties in California or Florida,'' Amaya says.
In Sonoma County, Terhune says that when he bid on his home he was confident he could handle the payments. The two-story house came with a nearby shed for his cabinetry business and 34 acres (14 hectares). He planned to use a few of them to grow grapes and build an office for his business.
By the time he moved into his new home in October 2006, housing prices were falling. Homeowners who had grown used to tapping rising equity values to finance renovations grew wary.
``The past two years have been pretty hard,'' he says as he oversees two employees unloading lumber.
Terhune was in trouble almost right from the start. When his second $6,910.89 mortgage payment came due, he didn't have the money.
``I called AMC and told them I only had $5,000,'' Terhune says, referring to Ameriquest Mortgage Co., which is no longer doing business. Its parent, ACC Capital Holdings Inc., agreed to sell its wholesale mortgage origination and servicing operation to Citigroup in August 2007. ``I asked them if we could work something out, but they were not interested,'' he says.
The following month, Terhune owed $14,000; he says he had $10,000.
Not Getting Paid
``I had worked on a house but that house got foreclosed, so I'm not going to get paid,'' he says.
A mortgage collector told him not to send any money unless he could pay the entire amount, he says. By the time National Asset Direct bought the loan and offered a plan to reduce his payments, Terhune was $70,000 in arrears. Even with the easier terms, he missed the December payment.
``I'm keeping good faith and trying to catch up,'' he says. ``I'm flying by the seat of my pants.''
Dellacamera has been around long enough to know he's in uncharted territory too. He's betting Terhune and homeowners like him can eventually become solid borrowers and, if not, that National Asset Direct paid so little for their mortgages it can at least come out whole. It's a risk Dellacamera is prepared to take.
Feb. 28 (Bloomberg) -- A muddy gravel road winds uphill through a redwood forest to Jake Terhune's $985,000 home just outside of Geyserville, in the heart of California's Sonoma County wine region. Terhune, 28, a self-employed cabinetmaker with tattoo-covered arms and a ginger goatee, put down $100,000 and agreed to pay about $6,900 a month for 30 years to buy the three-bedroom house in 2006.
Things started going wrong almost immediately after he moved in. Demand for Terhune's custom cabinetry dried up. His business's income, which had been about $20,000 a month, plunged 50 percent.
After making his first payment, he fell behind. Unable to persuade Irvine, California-based Ameriquest Mortgage Co. to modify his loan, he stopped paying and ignored calls threatening to take his home. By the summer of 2007, Ameriquest, once the biggest home lender to people with credit problems, put the loan up for sale.
``I was working on two houses, but they got foreclosed,'' Terhune says. ``If my customers can't pay what they owe me, the mortgage company can't get what I owe them.''
That's when Ralph Dellacamera got involved. Dellacamera, 54, is a hedge-fund manager with years of experience in vulture investing, the strategy of buying assets at distressed prices in an effort to profit when prices recover.
He is one of several investors -- among them Goldman Sachs, the world's biggest securities firm; private equity firm Equifin Capital Partners; and billionaire Wilbur Ross -- seeking to make money from the collapse of the subprime mortgage market while helping borrowers hold on to their homes.
Handling the Paperwork
By purchasing loans for as little as 50 cents on the dollar and then collecting the payments and handling the paperwork, Dellacamera can cut costs enough to offer easier terms and still make a profit, he says. Once borrowers have re-established themselves, the loans can be resold in the secondary market at a 15-20 percent gain.
``If you get the servicing right, you can make money from these mortgages,'' he says during an interview in his 33rd-floor offices in midtown Manhattan. ``We win if the homeowner gets to stay in their home.''
National Asset Direct Inc., a company set up by Dellacamera's New York-based hedge fund firm, Dellacamera Capital Management LLC, bought Terhune's mortgage last year for 69 cents on the dollar and made him an offer he couldn't refuse: In return for a $25,000 lump sum and four monthly payments at the original level, it would cut the interest rate to 6.5 percent from 8.9 percent, lowering the monthly payment to $5,174.
$150 Million of Loans
Dellacamera says he and an investor in his fund he declined to identify have put $102 million into New York-based National Asset Direct since it opened in October 2006. The company, staffed by mortgage industry veterans, has used $75 million to acquire loans with a face value of $150 million.
Through January, the return on investments that have been liquidated exceeded 20 percent, Dellacamera says. He is planning to raise $1 billion from investors willing to bet there's money to be made from the mortgage mess, one loan at a time.
The number of U.S. homeowners behind on their payments hit a 21-year high in the third quarter of 2007, according to the Mortgage Bankers Association, a Washington-based trade group. The share of all home loans with payments more than 30 days late rose to a seasonally adjusted 5.6 percent. New foreclosures hit an all-time high of 1.69 percent of loans outstanding.
Home prices had their biggest fourth-quarter drop since 1991, according to the Office of Federal Housing Enterprise Oversight. An estimated 1.35 million homes went into the foreclosure process last year and 1.44 million more are headed that way in 2008, the mortgage bankers' group says. That's up from 705,000 in 2005.
In Everyone's Interest
``Defaults are at a record level,'' says Douglas Duncan, formerly the association's chief economist. ``It's in the interest of lenders, and owners, to modify the loans,'' says Duncan, who earlier this week was named chief economist of Fannie Mae, the largest U.S mortgage-finance company.
The collapse of the subprime mortgage market has led to more than $174 billion of asset writedowns and credit losses at securities firms and banks since the beginning of 2007. It also cost the jobs of Merrill Lynch & Co. Chief Executive Officer Stan O'Neal and his Citigroup Inc. counterpart, Charles Prince. More than 100 mortgage companies have filed for bankruptcy, been acquired or closed their operations.
The full impact may not be felt until low introductory ``teaser'' interest rates expire and push up borrowing costs. Interest rates are to reset this year on $362 billion of adjustable-rate subprime mortgages, according to research by Bank of America Corp. The Charlotte, North Carolina-based bank agreed in January to buy Countrywide Financial Corp., the nation's biggest mortgage company, for about $4 billion -- a sixth of the Calabasas, California-based company's value a year earlier.
`Being Long and Wrong'
Trying to make money in a market that is still falling is risky.
``The penalty for being long and wrong could still be extremely costly,'' says Anoop Dhakad, director of business development at MKP Capital Management LLC, a New York-based hedge fund manager with $5 billion in assets. ``Some of us are waiting on the sidelines until the bottom becomes a bit more apparent.''
Dellacamera and the other investors now picking through the subprime mortgage debris are betting nimble players can take advantage of the crisis.
``There is about half a trillion dollars of impaired loans that need to be fixed,'' says Mani Sadeghi, a managing partner at New York-based Equifin Capital Partners. That total includes both subprime mortgage and loans made to more creditworthy borrowers. ``Some will be resolved successfully; others, not.''
The key is servicing, Sadeghi, 44, says.
Linking Borrowers, Investors
``Servicing is the only direct interface between borrowers who want to protect their homes and the investors who have extended credit to them,'' he says.
Under normal circumstances, mortgage servicing is a humdrum activity. The servicer collects the borrower's interest and principal payments -- and taxes and insurance premiums in some cases -- and channels the money to lenders. It also maintains paperwork, follows up with late payers to resolve delinquency problems and, when necessary, initiates foreclosure proceedings.
Mortgage servicing companies earn fees of as much 25 basis points, or a quarter of a percentage point, on a prime loan, says Dan Measell, co-founder of Mortgage Dynamics Inc., a McLean, Virginia-based advisory company.
``For loans that are delinquent, the rate is much higher because the servicer will have to do more work.''
Pocketing Fee Income
By taking on the servicing themselves, investors buying delinquent mortgages get to pocket a stream of fee income while restructuring the loan to help the borrowers. That's particularly important at a time when property values are still falling and foreclosures are rising.
``Servicing is where the rubber meets the road,'' says Ron Greenspan, senior managing director at Baltimore-based FTI Consulting Inc. The company acted as an adviser to creditors in the bankruptcies of lenders including Irvine, California-based New Century Financial Corp., the biggest subprime mortgage lender to seek court protection.
``If you do it right, it'll give you an opportunity to maximize how you manage your investment in loans,'' Greenspan says.
National Asset Direct started out by hiring Quantum Servicing Corp., a unit of Shelton, Connecticut-based Clayton Holdings Inc., to service mortgages it bought. More recently, it created iServe Servicing Inc. in Irving, Texas, and has been moving business there.
Equifin led a group of investors including New York-based hedge fund firm Och-Ziff Capital Management Group LLC, an Equifin limited partner, in January 2007 to set up Residential Credit Solutions Inc. The Fort Worth, Texas-based company invests in mortgages and distressed loans. Equifin also acquired a home-loan billing and collections unit from San Diego-based Accredited Home Lenders Holding Co. and developed a servicing unit in-house.
`Judgment-Intensive Business'
``Servicing is now a judgment-intensive business,'' Sadeghi says. ``You have to know the mortgage markets, know when to modify the loans and have the system and technology to monitor the loans.''
Goldman Sachs, which earned a record $11.6 billion in fiscal 2007 partly by betting on declines in the subprime mortgage market, scooped up Litton Loan Servicing LP in December. The Houston-based company, which specializes in collecting payments from delinquent borrowers, was purchased from subprime mortgage investor Credit-Based Asset Servicing & Securitization LLC. Terms weren't announced.
Goldman Sachs CEO Lloyd Blankfein said at an investor conference in November that his company had raised $4.5 billion for two funds to take advantage of distress opportunities in the credit market.
``A premium is being placed on quality servicing capabilities for which Litton is very well known,'' Michael DuVally, a spokesman for Goldman in New York says. He declined to comment further or to make Litton executives available for an interview. ``This is not the time for profiles to be raised,'' he says.
Former Bankruptcy Adviser
Then there's Ross, who heads New York-based private equity firm WL Ross & Co. The 70-year-old former Rothschild Inc. bankruptcy adviser turned a $310 million investment in steelmaker LTV Corp. in 2001 into $4.5 billion in 2004 after he sold to Indian billionaire Lakshmi Mittal. Now he's getting into mortgage servicing.
Ross paid about $500 million in October to buy the home loan servicing unit of American Home Mortgage Investment Corp., a Melville, New York-based subprime lender that declared bankruptcy last August. The unit will be collecting payments on about $50 billion of mortgages, Ross says. He also joined with Richard Branson's Virgin Group Ltd. in an unsuccessful bid for Northern Rock Plc, a Newcastle, England-based lender nationalized by the British government in February after being bailed out by the Bank of England.
``I hope we are not too early,'' Ross says. ``The turmoil could last for a few years.''
Decade on Wall Street
Financial turbulence isn't new to Dellacamera. He worked as a longshoreman to pay his tuition at the University of New Haven, from which he graduated in 1975 with an undergraduate degree in marketing. After a decade on Wall Street at firms including Paine Webber Group Inc., he joined New York-based Elliott Associates LP in 1986.
Elliott is a hedge fund firm founded by Paul Singer that acquires distressed debt at a discount and demands full payment. Dellacamera started doing convertible arbitrage. In this strategy, a fund buys convertible bonds -- securities that can be exchanged for company shares -- while selling short the underlying stocks. Investors using this technique make money if the convertible is mispriced relative to the stock.
Elliott later switched strategies, buying debt of bankrupt companies such as savings and loans during the S&L crisis in the late 1980s.
``We made a lot of money,'' says Dellacamera, who became the firm's head trader and senior risk manager.
Specializing in Derivatives
Dellacamera left in 1999 to set up a broker-dealer firm, then sold his interest to a partner after a couple of years to get back into money management.
He went to work at Maxcor Financial Group Inc., a company specializing in derivatives, which are financial instruments whose value is derived from assets including stocks, bonds and currencies or from such events as changes in interest rates. Dellacamera, who became a managing director and head of the leveraged-finance division, left in September 2005, after Maxcor was acquired by a unit of New York-based Cantor Fitzgerald LP.
Dellacamera started his hedge fund in January 2006 with about $25 million in capital. It now has more than $400 million, he says.
``We are an opportunistic situational fund, looking to influence events, such as a bankruptcy,'' he says. The fund buys distressed corporate debt and then works with the company management to get a higher return. ``The rate of return is greater if you can restructure so that the loan performs,'' he says.
Eight-Hour Meeting
The decision to branch out into delinquent mortgages came after Dellacamera and Jeff Kaplan, a senior portfolio manager, met in March 2006 with Louis Amaya and Matt Stadler of General Motors Acceptance Corp., who were trying to sell a portfolio of 200 distressed mortgages. General Motors Corp. sold a majority stake in the auto and mortgage lender, now known as GMAC LLC, later that year. After an eight-hour meeting, Dellacamera and Kaplan, 39, still had questions.
``I asked them, `If you were in our position, would you buy this portfolio?''' Dellacamera recalls.
Amaya says he and Stadler said it probably wouldn't be prudent for Dellacamera Capital to purchase the loans without knowing how to manage the risk.
``At the same time, we communicated that for guys like Matt and I who had the local relationships and understood how to manage the risk, there was some money to be made,'' Amaya says.
Instead of buying the loans, Dellacamera offered Amaya and Stadler the job of setting up a company to buy delinquent mortgages and fix them.
New Century's Furniture
Amaya, 42, National Asset Direct's chief operating officer, located the company's portfolio management team in San Diego -- in a redbrick office building about 17 miles (27 kilometers) north of downtown, where space was available because of job cuts at Countrywide Financial. The furniture came from neighboring New Century, the subprime lender that had filed for bankruptcy weeks earlier.
``It was almost like free,'' Amaya says.
Amaya and Robert Willis, director of asset management, weigh the merits of pools of distressed mortgages being offered by mortgage companies and banks. The price is discounted based on factors such as loan-to-value ratio, the property's location and the borrower's credit score and bankruptcy status, says Stadler, 31, the firm's chief financial officer.
Change of Heart
``We've had sellers who didn't like our values and walked off but came back three months later to make the deal.''
Once a loan is acquired, the goal is to develop a restructuring plan to head off foreclosure.
``When a borrower shows commitment to work things out, that's a good sign,'' says Bradley Staley, who heads loss mitigation at the iServe Servicing arm. ``If there is a commitment to stay and an ability to pay, we can always work things out.''
In an office in Irving on a January afternoon, Staley, 28, is discussing a loan with a delinquent borrower over a speakerphone. The homeowner is hesitant; there are silences. Staley pushes for more information about his income and expenses.
The borrower, who declined to have his name made public, owes about $11,000. A self-employed van driver, he says $25,000 of merchandise was taken from his truck and he had to make good on the loss before he could resume mortgage payments. Traditional mortgage servicers typically want to see a borrower fail at three separate loan plans before offering to modify a loan.
`Quite a Cushion'
Staley doesn't wait. He offers to reduce the interest payment by 1 percentage point, in effect cutting the monthly payments by $200. He also holds out the incentive of further loan modification after four months.
``We have bought these portfolios at a discount, so we have quite a cushion,'' Staley says. ``We want to make good decisions quickly.''
Amaya and Stadler say they'll be able to resell mortgages once homeowners re-establish their creditworthiness. After a delinquent borrower makes six consecutive payments, the loan can be tagged as ``reperforming'' and sold for a gain of 15-20 percentage points, according to Stadler. National Asset Direct also has plans to develop a lending unit to originate mortgages. ``We may want to refinance our clients,'' Stadler says.
As the subprime collapse continues to reverberate throughout the real estate market, it's affecting homeowners far beyond the core states of Ohio, Indiana and Michigan. Six California cities were among the 20 U.S. metropolitan areas with the most foreclosures in 2007, according to RealtyTrac Inc., an Irvine, California, research firm with a database of more than 1 million properties.
California and Florida
``When we started, we never expected to see properties in California or Florida,'' Amaya says.
In Sonoma County, Terhune says that when he bid on his home he was confident he could handle the payments. The two-story house came with a nearby shed for his cabinetry business and 34 acres (14 hectares). He planned to use a few of them to grow grapes and build an office for his business.
By the time he moved into his new home in October 2006, housing prices were falling. Homeowners who had grown used to tapping rising equity values to finance renovations grew wary.
``The past two years have been pretty hard,'' he says as he oversees two employees unloading lumber.
Terhune was in trouble almost right from the start. When his second $6,910.89 mortgage payment came due, he didn't have the money.
``I called AMC and told them I only had $5,000,'' Terhune says, referring to Ameriquest Mortgage Co., which is no longer doing business. Its parent, ACC Capital Holdings Inc., agreed to sell its wholesale mortgage origination and servicing operation to Citigroup in August 2007. ``I asked them if we could work something out, but they were not interested,'' he says.
The following month, Terhune owed $14,000; he says he had $10,000.
Not Getting Paid
``I had worked on a house but that house got foreclosed, so I'm not going to get paid,'' he says.
A mortgage collector told him not to send any money unless he could pay the entire amount, he says. By the time National Asset Direct bought the loan and offered a plan to reduce his payments, Terhune was $70,000 in arrears. Even with the easier terms, he missed the December payment.
``I'm keeping good faith and trying to catch up,'' he says. ``I'm flying by the seat of my pants.''
Dellacamera has been around long enough to know he's in uncharted territory too. He's betting Terhune and homeowners like him can eventually become solid borrowers and, if not, that National Asset Direct paid so little for their mortgages it can at least come out whole. It's a risk Dellacamera is prepared to take.
Tuesday, June 2, 2009
Keeping the Ecosystem In Balance
It's no coincidence that the term "vulture fund" conjures up a negative and distasteful image--and certainly the media coverage vulture funds receive more often than not aligns with that connotation. But because these funds are called vulture funds much more frequently than their less offensive moniker -- emerging market debt funds -- it is worthwhile to look into how and why they have come to be known as "vultures."
The Financial Times' global fund managment industry blog, FTfmblog, recently featured a post explaining the hows and whys...
"...Some, including 110 UK MPs who signed an early day motion and a bevy of members of the US Congress, find the activities of these vulture funds distasteful. But any good environmentalist would advise against removing a lifeform from an ecosystem without careful consideration of the knock-on effects throughout the food chain.
Many find vultures themselves distasteful, but erase these important scavengers from their ecosystem and you’re left with one stinking, rotting mess. Ditto in the financial world.
Few institutional investors would be willing to invest in a long-term asset without the back-up of a secondary market to offload that position should circumstances dictate. Remove the vulture funds that provide a degree of secondary market liquidity and you are reducing the pool of primary purchasers.
As a result, the very nations politicians are endeavouring to protect would simply end up having to pay higher interest to borrow on the international markets in the first place.
The law of unintended consequences has a tendency to rise above human laws. The efforts of well-intentioned politicians could well backfire and make the lives of the developing world’s huddled masses even grimmer still."
Friday, May 29, 2009
A Vulture Fund Win-Win
I recently came across the following post from the Foreign Policy Passport blog about a recent transaction between Libera, along with the help of the World Bank, and a vulture fund. This is a great example of how a successful vulture fund transaction operates:
"Felix Salmon writes up a World Bank report on the returns a vulture fund made off of Liberia:
Liberia, with the aid of the World Bank, has been negotiating with vulture funds holding $1.2 billion of its debt. You know what vulture funds are, right? They’re evil hedge-fund types who buy up debt at pennies on the dollar, and then sue for repayment in full, with interest and penalties and everything.
Just look at the deal they drove in this case! Liberia, one of the poorest countries in the world, is going to have to pay them, er, nothing at all. The World Bank is kicking in $19 million, a few rich countries are matching that sum, and the vultures are walking away with a not-very-princely-at-all $38 million, or just 3 cents on the dollar. Which probably barely covers their legal fees, let alone the amount they paid for the debt in the first place.
Let's read that again: the World Bank and Liberian government negotiated a deal so that vulture funds holding $1.2 billion in debt ended up with a check for $38 million -- three percent!
It's distressing that Liberia got in such a bad fix. It needed to raise funds and banked on future growth to make the payments -- but a bloody civil war meant it couldn't. The original lenders decided to sell the loans off to vulture and hedge funds who drove a hard bargain. Which meant that at one point, Liberia owed seven times its national income to creditors.
So, the balance sheet -- in redux:
The vulture funds (name makes it hard to feel bad for them, doesn't it?) lost $1.26 billion on paper. (I doubt they paid the full $1.3 billion for the loans, the World Bank doesn't say.) For better or worse, it means they likely aren't lending anymore.
Liberia, struggling with a crushing debt burden, found forgiveness. This is a good thing -- if Liberia's government has put in place measures to ensure security, stability, and economic growth. Johnson Sirleaf's at least making an effort.
Liberia's rich friends (the United States included) stepped in with a bit of cash to help a very ailing economy. A good thing.
The World Bank negotiated what seems to be an amicable settlement. (Though the vulture funds might beg to differ.) A good thing for them.
Ultimately, though, Liberia isn't the story here. Emerging market and developing economies, like Liberia, will be among the hardest-hit in the Great Recession. Unlike OECD countries, they won't be able to issue debt or raise funds easily. They'll need the help of the international community -- and especially international organizations -- to ensure that their loans come with advisement and affordable repayment options.
The hero here's the World Bank. Suddenly, it and the IMF -- especially the IMF, perhaps -- have become the world's most important international organizations."
The author is correct in stressing that these types of transactions are what will be needed for many cash-poor countries, especially in times like these.
"Felix Salmon writes up a World Bank report on the returns a vulture fund made off of Liberia:
Liberia, with the aid of the World Bank, has been negotiating with vulture funds holding $1.2 billion of its debt. You know what vulture funds are, right? They’re evil hedge-fund types who buy up debt at pennies on the dollar, and then sue for repayment in full, with interest and penalties and everything.
Just look at the deal they drove in this case! Liberia, one of the poorest countries in the world, is going to have to pay them, er, nothing at all. The World Bank is kicking in $19 million, a few rich countries are matching that sum, and the vultures are walking away with a not-very-princely-at-all $38 million, or just 3 cents on the dollar. Which probably barely covers their legal fees, let alone the amount they paid for the debt in the first place.
Let's read that again: the World Bank and Liberian government negotiated a deal so that vulture funds holding $1.2 billion in debt ended up with a check for $38 million -- three percent!
It's distressing that Liberia got in such a bad fix. It needed to raise funds and banked on future growth to make the payments -- but a bloody civil war meant it couldn't. The original lenders decided to sell the loans off to vulture and hedge funds who drove a hard bargain. Which meant that at one point, Liberia owed seven times its national income to creditors.
So, the balance sheet -- in redux:
The vulture funds (name makes it hard to feel bad for them, doesn't it?) lost $1.26 billion on paper. (I doubt they paid the full $1.3 billion for the loans, the World Bank doesn't say.) For better or worse, it means they likely aren't lending anymore.
Liberia, struggling with a crushing debt burden, found forgiveness. This is a good thing -- if Liberia's government has put in place measures to ensure security, stability, and economic growth. Johnson Sirleaf's at least making an effort.
Liberia's rich friends (the United States included) stepped in with a bit of cash to help a very ailing economy. A good thing.
The World Bank negotiated what seems to be an amicable settlement. (Though the vulture funds might beg to differ.) A good thing for them.
Ultimately, though, Liberia isn't the story here. Emerging market and developing economies, like Liberia, will be among the hardest-hit in the Great Recession. Unlike OECD countries, they won't be able to issue debt or raise funds easily. They'll need the help of the international community -- and especially international organizations -- to ensure that their loans come with advisement and affordable repayment options.
The hero here's the World Bank. Suddenly, it and the IMF -- especially the IMF, perhaps -- have become the world's most important international organizations."
The author is correct in stressing that these types of transactions are what will be needed for many cash-poor countries, especially in times like these.
Wednesday, May 20, 2009
Sustainable Development Efforts By Emerging Market Funds
I wrote on Monday about DAI's white paper about vulture funds' interest in and ongoing efforts towards sustainable development in emerging markets. As a follow up to that I'd like to share the following, a recent entry on the website BankInvesmentConsultant.com of a similar sentiment:
Emerging Markets Warming Up to Sustainable Investing
By Money Management Executive
April 2, 2009
Fund managers in emerging markets are increasingly paying attention to environmental, social and corporate governance factors, according to research by Mercer.With $300 billion under management, sustainable investment management assets in emerging markets now represent 10% of all assets managed there. Fifty billion of that is in funds specifically labeled as sustainable investments, and the remaining $250 billion is in funds that practice sustainable investing.While managers in emerging markets often have a deeper understanding of social issues than their counterparts in developed nations, often they don’t know how to use their proxy voting power, noted Danyelle Guyatt, head of research in Mercer’s responsible investment unit.Mercer believes that if socially responsible investing is practiced in emerging markets, it can go a long way toward reducing poverty in those regions.
Emerging Markets Warming Up to Sustainable Investing
By Money Management Executive
April 2, 2009
Fund managers in emerging markets are increasingly paying attention to environmental, social and corporate governance factors, according to research by Mercer.With $300 billion under management, sustainable investment management assets in emerging markets now represent 10% of all assets managed there. Fifty billion of that is in funds specifically labeled as sustainable investments, and the remaining $250 billion is in funds that practice sustainable investing.While managers in emerging markets often have a deeper understanding of social issues than their counterparts in developed nations, often they don’t know how to use their proxy voting power, noted Danyelle Guyatt, head of research in Mercer’s responsible investment unit.Mercer believes that if socially responsible investing is practiced in emerging markets, it can go a long way toward reducing poverty in those regions.
Monday, May 18, 2009
Worth a Look
In the interest of enriching the conversation about emerging market debt funds, I came across an extremely interesting white paper over the weekend from Debt Advisory International, a DC-based firm with experience and clients in Sub-Saharan Africa, Latin America, Eastern Europe and Asia. The paper, "Prospects For Reduction And Conversion Of U.S. Sovereign Claims On Developing Countries To Support Overseas Sustainable Development Activities," offers thoughtful insight into some of the issues associated with promoting sustainable development in emerging markets. From the Conclusion and Recommendations section:
"Despite these obstacles, potential exists for the use of debt conversion and other innovative financing techniques to support overseas development. While the issues examined in this report are quite complex, they do have an important impact on the budget and foreign policies of the U.S. and should therefore be carefully examined to maximize the benefits to all concerned parties ... In particular, the authors suggest that the following actions be undertaken:
"Despite these obstacles, potential exists for the use of debt conversion and other innovative financing techniques to support overseas development. While the issues examined in this report are quite complex, they do have an important impact on the budget and foreign policies of the U.S. and should therefore be carefully examined to maximize the benefits to all concerned parties ... In particular, the authors suggest that the following actions be undertaken:
- Thorough study by the U.S. Government of the costs and benefits of a comprehensive program to discount existing Ex-Im Bank and/or USAID claims on developing countries;
- Careful examination by the U.S. Government of the approaches of other creditor governments to converting and reducing their outstanding claims on developing countries;
- Harmonization of the policies of Ex-Im Bank, USAID, Treasury, and other U.S. agencies for valuing outstanding claims on developing countries."
Overall, the paper exemplifies the concerns DAI has about ensuring sustainable development in countries with emerging market funds. Learn more about DAI and read the full paper here.
Tuesday, May 12, 2009
More Food for Thought on Vulture Funds
I wrote last week about Salmon's post questioning the "silly war," as he puts it, on vulture funds. Reader comments and the views expressed as a result of the entry were thoughtful and added further color to this increasingly interesting issue.
One reader made a particularly thought-provoking analogy, comparing the public's discomfort about vulture funds to that of record or pharmaceutical companies. He says:
"The discomfort people feel toward vulture funds strikes me as rather a lot like (part of) the discomfort people feel toward record companies and pharmaceuticals. Each is playing the different games in the same way: they’re both playing for the tails of the distribution. Now these same people may have other good reasons to hate the recording and pharma industries, but claims that these groups “gouge” artists and patients (and debtors in the case of the vultures) on the basis that one particular “hit” has high margins/returns is a bit myopic."
I think this brings up an important point--perhaps because of the name they have assumed, or the couple of high-profile cases that have been splashed across the news, vulture funds are often only partially understood.
Thoughts?
One reader made a particularly thought-provoking analogy, comparing the public's discomfort about vulture funds to that of record or pharmaceutical companies. He says:
"The discomfort people feel toward vulture funds strikes me as rather a lot like (part of) the discomfort people feel toward record companies and pharmaceuticals. Each is playing the different games in the same way: they’re both playing for the tails of the distribution. Now these same people may have other good reasons to hate the recording and pharma industries, but claims that these groups “gouge” artists and patients (and debtors in the case of the vultures) on the basis that one particular “hit” has high margins/returns is a bit myopic."
I think this brings up an important point--perhaps because of the name they have assumed, or the couple of high-profile cases that have been splashed across the news, vulture funds are often only partially understood.
Thoughts?
Friday, May 8, 2009
Vulture Funds: What's the big idea?
I've shared the thoughts of now-Reuters-blogger Felix Salmon before on this blog--his post this week is worthy of mention once again. It's a clear explanation and defense of "vulture funds":
"The bill they’re talking about is this one, which is very similar to the Stop Vulture Funds Act being pushed by Maxine Waters in the US. Essentially it says that if you lend money to a country you have the right to get your money back — but if you then sell that loan to someone else after it has gone into default, the person you sold it to does not have the right to be repaid in full, and instead can only be awarded the amount they originally paid for the debt, plus a small set interest rate.
In other words, the single greatest innovation in the history of debt capital markets — the idea that obligations can be traded, rather than just being held to maturity or litigated upon default — is destroyed at a stroke.
What’s more, the problem these bills are trying to solve is absolutely minuscule. Not only are vulture funds settling their debts for three cents on the dollar, but they more generally have had a very hard time indeed successfully collecting on court judgments around the world. That’s why litigation is a last resort for vultures: anybody who thinks that they buy up this debt with the intention of litigating for repayment in full simply doesn’t understand the business model.
The good news, however, is that neither the UK nor the US bill has any chance of making it into law: the governments in both countries, for all that they’re nominally left-wing, would never support either piece of legislation. This is basically theatre on the part of lawmakers, not a serious and thought-through attempt to rewrite the international financial architecture. If it were, maybe the lawmakers in question might have asked developing countries what they thought of this legislation. And they might well have been surprised at the answer, which is that countries want no part of any act which might hinder their access to capital or their equal-player status on the world stage.
Anti-vulture-fund legislation like this is paternalism of the worst kind: it might be well intentioned, but at heart it’s a bunch of ill-informed northerners telling impoverished southerners what’s good for them. If and when vulture funds ever become a real problem — which I doubt will ever happen — then I fully expect to see the afflicted countries coming up with their own suggested solutions. In the meantime, let’s not exacerbate the plight of those countries by cutting off whatever access to international capital that they currently enjoy."
Salmon knows his stuff and articulates the operational elements of vulture funds in language that we can all stand behind. More to come...
"The bill they’re talking about is this one, which is very similar to the Stop Vulture Funds Act being pushed by Maxine Waters in the US. Essentially it says that if you lend money to a country you have the right to get your money back — but if you then sell that loan to someone else after it has gone into default, the person you sold it to does not have the right to be repaid in full, and instead can only be awarded the amount they originally paid for the debt, plus a small set interest rate.
In other words, the single greatest innovation in the history of debt capital markets — the idea that obligations can be traded, rather than just being held to maturity or litigated upon default — is destroyed at a stroke.
What’s more, the problem these bills are trying to solve is absolutely minuscule. Not only are vulture funds settling their debts for three cents on the dollar, but they more generally have had a very hard time indeed successfully collecting on court judgments around the world. That’s why litigation is a last resort for vultures: anybody who thinks that they buy up this debt with the intention of litigating for repayment in full simply doesn’t understand the business model.
The good news, however, is that neither the UK nor the US bill has any chance of making it into law: the governments in both countries, for all that they’re nominally left-wing, would never support either piece of legislation. This is basically theatre on the part of lawmakers, not a serious and thought-through attempt to rewrite the international financial architecture. If it were, maybe the lawmakers in question might have asked developing countries what they thought of this legislation. And they might well have been surprised at the answer, which is that countries want no part of any act which might hinder their access to capital or their equal-player status on the world stage.
Anti-vulture-fund legislation like this is paternalism of the worst kind: it might be well intentioned, but at heart it’s a bunch of ill-informed northerners telling impoverished southerners what’s good for them. If and when vulture funds ever become a real problem — which I doubt will ever happen — then I fully expect to see the afflicted countries coming up with their own suggested solutions. In the meantime, let’s not exacerbate the plight of those countries by cutting off whatever access to international capital that they currently enjoy."
Salmon knows his stuff and articulates the operational elements of vulture funds in language that we can all stand behind. More to come...
Monday, May 4, 2009
Some Positive Economic News (for once)
According to a Wall Street Journal article by Kejal Vyas from last week, the times, they are a'changin... and not in a bad way. Vyas writes: "With risk premiums on emerging market assets edging lower and with some investors coming back in the past several weeks, the mood at the Emerging Markets Trade Association's spring forum was mostly upbeat.
Emerging-market asset managers from some large Wall Street firms agreed Thursday that the worst may be behind us."
This is certainly encouraging news for those of us invested in the emerging market fund arena, and it gets even better: "Panelists also said they don't see the U.S. leading out of the global economic decline. They spoke highly of developing markets and their chances of outperforming developed economies namely because of aggressive interest rate cuts by central bankers, which have allowed them to stimulate growth."
For those of you who have been considering or even on the fence about getting involved with an EMF, now might be just the time to dip your toe... Stay tuned--my next few posts will recommend some companies worthy of your consideration as you invest in an EMF.
Come on in, the water's fine.
Emerging-market asset managers from some large Wall Street firms agreed Thursday that the worst may be behind us."
This is certainly encouraging news for those of us invested in the emerging market fund arena, and it gets even better: "Panelists also said they don't see the U.S. leading out of the global economic decline. They spoke highly of developing markets and their chances of outperforming developed economies namely because of aggressive interest rate cuts by central bankers, which have allowed them to stimulate growth."
For those of you who have been considering or even on the fence about getting involved with an EMF, now might be just the time to dip your toe... Stay tuned--my next few posts will recommend some companies worthy of your consideration as you invest in an EMF.
Come on in, the water's fine.
Thursday, April 23, 2009
Is the term 'vulture fund' misleading?
As you may or may not know, the emerging market funds that I focus on in this blog and follow closely often are also known by what I consider to be a misleading name: vulture funds. I am dedicated to uncovering the facts and reality behind these funds and the style of investing that must accompany them, and recently came across a blog entry by Felix Salmon that offers a great "defense" of vulture funds.
It follows below:
In defense of vulture funds
Greg Palast is an admirably bulldoggish reporter. Pop over to his blog, and you'll see that the last six entries are all on the subject of vulture funds in general, and the Donegal vs Zambia case in particular. Palast reported on the subject for BBC's Newsnight: You can see the full video here, or get essentially the same gist in text form here.
At the same time, the Guardian's Ashley Seager has been following the news of the case from a decidedly Palastian perspective. Here are some of his recent headlines, which give a pretty good idea of the tone he's taking:
'Vulture' feeds on ZambiaCourt lets vulture fund claw back Zambian millionsBush could block debt collection by 'vulture' funds
All of this reporting is predicated on the basic notion that vulture funds are inherently evil things, doing things which can and should be banned. (This notion is not confined to leftist journalists, by the way. It is shared by sophisticated international economists, such as Anne Krueger, the former first deputy managing director of the IMF.)
I am broadly sympathetic to where people like Palast and Seager and Krueger are coming from: I think that debt relief for heavily-indebted poor countries is a very good idea, and I think that poor Africans struggling under their governments' enormous debt burdens care little about distinctions between different types of creditors and other matters which I'm going to discuss here.
At the same time, however, I've seen the vulture funds get almost no defense in the press, and there are in fact quite a lot of reasons why they perform a good and useful function. (In this respect, they're rather similar to the birds after which they're named.) So read Palast if you want the argument against the vultures: What I'm going to write here is a deliberately one-sided defence of what they do and how they do it. With luck, I'll be able to get Palast to respond.
(One big hat-tip before I start, to Andrew Leonard, whose blog entry on the subject I read just as I was heading into a completely unconnected meeting with Palast's wife on Thursday. Another participant in the meeting asked for a "primer" on all this: I think between Palast's stuff and my own, we should be most of the way there – assuming that the length of this entry doesn't disqualify it from primer status.)
So. What is a vulture fund? Here's Palast's definition (actually, I should be accurate here – the byline on the piece is actually Newsnight's Meirion Jones, who was the producer on Palast's report):
Vulture funds - as defined by the International Monetary Fund and Gordon Brown amongst others - are companies which buy up the debt of poor nations cheaply when it is about to be written off and then sue for the full value of the debt plus interest - which might be ten times what they paid for it.
There's a lot of stuff to unpack here. But to begin at the end, vulture funds – or distressed-debt investors, as they prefer to be known – are no great fans of litigation strategies. Yes, they do sue countries in US and UK courts, on occasion. But there are lots of other ways they can make their money. For instance, consider a vulture distressed-debt fund which bought Ecuadorean Brady bonds at 25 cents on the dollar in 1999 after that country defaulted, and then tendered into Ecuador's 2000 debt exchange, in which bondholders were given securities worth about 70 cents on the dollar. That was a highly lucrative trade, which involved no legal fees and which probably made more money, in terms of annualized return net of fees, than most if not all of the litigation strategies which vulture funds get into.
As for debt which "is about to be written off", that might be true in the Donegal-Zambia case, but it is far from being the norm. In fact, I don't know of any other distressed-debt situation in which a vulture fund "swooped in" (sorry, these things are unavoidable) and bought debt which was about to be cancelled. I daresay there might be one or two situations that I don't know about, but such trades are emphatically not the norm. In the vast majority of situations, vulture funds buy debt from investors who, for whatever reason, no longer want to hold it. And in doing so, they provide a very useful service.
Consider this: You're an investor, and you buy the bonds of the sovereign nation of Ruritania for 100 cents each. The bonds pay their 7% interest for a couple of years and you're happy, until one morning Ruritania decides it is going to default and not pay you anything. Now what do you do? "Oh well," you can say to yourself, "easy come, easy go, I guess I lost all of my money". You could say that, but that would be pretty unlikely, because you're a bond investor – and bond investors tend to be reasonably risk-averse. If you wanted to risk losing all your money, then you would have invested in something much riskier, like stocks.
But that's not your only option. A bond is, after all, a legal contract, and Ruritania is contractually obliged to pay you your interest and principal in full and on time. Just as your bank can sue you if you stop making your mortgage or credit-card payments, you can sue Ruritania if it stops making its coupon payments.
But there's a problem here. Legal fees are expensive, and you don't have any money. What's more, Ruritania has high-powered lawyers of its own, such as William Blair QC, Tony Blair’s brother, and can call at will on the awesome might of huge international law firms such as Cleary Gottlieb Steen & Hamilton. There's no way you can even retain, let alone afford, that kind of legal firepower – and in any case you have no appetite for a drawn-out legal fight which could last for years. What's more, even if you win the legal fight, there's still no guarantee that Ruritania will have any more respect for a court judgment in your favor than it had for the original bond contract. In other words, you could win in court and still be no better off than you were to begin with – worse off, in fact, since you'd be down all those legal fees.
Back to square one, then, it would seem: You've lost all your money. Except – there is one more option. Bonds, after all, are securities, which can be bought and sold. At any point in time, including now, any bondholder is free to sell his bonds to the highest bidder (or anyone else). And it turns out that in the market for Ruritanian bonds, there is a bid at 50 cents on the dollar. Rather than losing your entire 100-cent investment, you can sell your bonds for 50 cents instead, and lose only half rather than all of your money. Ruritanian debt hardly turned out to be a fabulous investment, but at least it didn't wipe you out completely.
Who would pay 50 cents on the dollar for Ruritanian debt? Well, bonds in default are known as "distressed debt", so by definition anybody buying such a thing is a distressed-debt investor. Or, to use the more abusive term, a vulture. From the point of view of bondholders, however, these particular vultures look more like white knights. Many large institutional investors will never pursue legal strategies against deadbeat debtors: that's simply not their skill-set. And most of them aren't even allowed to hold defaulted debt in the first place: they're forced to sell their bonds if an issuer defaults. So what they need in such a situation is a market in such instruments which will give them some kind of non-negligible recovery value on their defaulted paper. Without such a market, there's a good chance that they would never take the risk of investing in any foreign country's debt in the first place.
I can hear Palast in the back of my head already. "Good!," he's saying. "Countries shouldn't run up burdensome debts which will ultimately have to be repaid, with interest, by poor future generations." Well, Palast is entitled to think that – if, indeed, that's what he thinks. There's certainly a case to be made that development institutions such as the World Bank should move away from loans and towards more grants to poor countries. I'm not going to get into that debate here. I'm simply going to point out that ever since the 18th Century, successful nations have been those which have been able to finance themselves through the issuance of debt securities. (See James Macdonald for much, much more on this idea.)
More generally, debt is a Good Thing. On a personal level, few of us would ever be able to buy a car or a house without some kind of debt finance – and on a sovereign level, countries which desperately need roads or ports or schools or hospitals can build them today, rather than having to save up for years before being able to build them, only because they can raise debt capital. Obviously, too much debt is a bad thing – that's what "too much" means. But every democracy in the world borrows money, and it's the worst type of paternalism to tell poor countries that they can't or shouldn't do something which all countries do and which its own citizens have voted for.
For debt finance to work, you need three things: a borrower, a lender, and a contract. The contract can be as simple as a verbal agreement that "I'll pay you back tomorrow," or it can be an inch-thick loan agreement with repayment schedules and covenants and negative pledges and waivers of sovereign immunity. But the important thing is that the borrower contracts to repay the lender. And one of the interesting things that lenders have learned over the years is that abstract sovereign entities, such as governments, are actually more reliable in this respect than sovereign individuals, such as kings or emperors. Governments can and do repay their debt for ever. (Britain started issuing perpetual bonds in 1853, and by 1935, perpetual bonds made up more than 60% of the UK's debt issuance.) Individuals, by contrast, die – and when they do, it's often impossible to collect on their unsecured debts. Today, the safest debt instruments in the world are US Treasury bonds – the sovereign debt of the US government. Indeed, the rate of return on Treasury bonds is known as the "risk-free rate".
So there's nothing obscene about the idea that governments should owe individual creditors money, and there's nothing remotely unusual about those debts being enforceable in a court of law. Pretty much every government in the world, with the possible exception of Cuba, has implicitly accepted the fact that they are responsible for the debts incurred by previous governments – and that, in turn, they can compel future governments to make certain repayments. Every so often, sovereign debts become overwhelming, and they are restructured by the mutual agreement of the debtor and its creditors. But outright repudiations of outstanding debt are very rare – and even when they do happen, as in the case of Cuba, the bonds continue to trade on the secondary market for 30 cents on the dollar or more – in the expectation that, sooner or later, a future Cuban government will finally make good on the debt.
If a government defaults on its obligations, then, the debt doesn't simply disappear. It's still there – and, sooner or later, it will have to be dealt with. Vulture funds are long-term investors who buy defaulted debt and then try to persuade the issuer to deal with it. Because they buy the debt cheap, they're often willing to settle at much less than face value – in the famous case of Elliott vs Peru, for instance, the vulture fund, Elliott Associates, made numerous attempts to settle with Peru at a discount, all of which failed. So Elliott resorted to litigation, and eventually got paid off, by Peru, in full.
Here's how Palast puts it (it's worth knowing that Paul Singer is the founder of Elliott Associates):
Newsnight went to New York to try to interview Paul Singer - the reclusive billionaire who virtually invented vulture funds.In 1996 his company they paid $11m for some discounted Peruvian debt and then threatened to bankrupt the country unless they paid $58m. They got their $58m.Now they’re suing Congo Brazzaville for $400m for a debt they bought for $10m.
I have some idea where the $400 million number comes from – I'm very familiar with the Congo case, having written about it at length in the September issue of Euromoney. I think that here Palast is wrong, and that he's confusing the amount that Elliott is claiming from Congo with the amount that Elliott is claiming from French bank BNP Paribas in a separate, if related, case. And as for Elliott threatening "to bankrupt" Peru – what does that even mean? The only thing that Elliott threatened was that they would try to attach payments which Peru was making to other creditors. Elliott's position was simply that Peru shouldn't be able to get away with paying some of its creditors in full and on time, while ignoring the claims of other creditors of equal or greater seniority. How that's related to bankruptcy, I have no idea.
But back to Donegal vs Zambia. In this case, Donegal and Zambia signed an agreement in April 2003, enforceable under UK law, under which Zambia would make certain debt payments to Donegal. Prior to that, in 1999, Zambia had officially recognized Donegal as a legitimate creditor. In the 2003 agreement, Donegal settled its $44 million debt for 33 cents on the dollar, to be repaid over the course of 36 monthly payments. Does that sound to you like they sued for repayment in full? Not at all: they were perfectly happy to take 33 cents on the dollar, and signed a legally binding agreement to that effect. It was only after Zambia defaulted on the 2003 agreement that Donegal took Zamiba to court, under the terms of the same legally binding agreement that had allowed Zambia to pay Donegal just 33 cents on the dollar.
It's worth bearing in mind, here, that if Zambia had simply paid Donegal the payments it agreed to make in 2003, neither Palast nor anybody else would even have noticed, let alone cared. A country making debt repayments is simply not news. But when Zambia stopped paying and Donegal sued, then, suddenly, Zambia making the debt payment is tantamount to Donegal killing children, or at the very least preventing them from being educated. In the BBC piece, Palast finds a Zambian who says that if the country makes the payment, "you are talking about in excess of 300,000 children being prevented from going to school" – as if the payment is coming out of Zambia's education budget, which it clearly isn't. (In fact, it's coming out of Mofed, a UK company owned by the Zambian ministry of finance.)
Half of the outrage against Dongeal comes from the fact that it is pursuing a legal strategy against Zambia – that it's using a UK court to force Zambia to pay up. But it's worth bearing in mind here that Zambia has broken its legally binding promises with regard to this debt not once but three times. It defaulted on the original debt it owed to Romania and which it promised to pay Romania in 1979; it broke its 1999 agreement with Donegal that it would recognize the transfer of the debt from Romania to Donegal; and it broke its 2003 agreement with Donegal setting out a repayment schedule at a highly discounted rate.
Zambia's apologists would have you believe that we should pay no attention to the country's previous promises. Zambia is poor, they say, and therefore it should be able to break its promises with impunity. But that simply doesn't work. Countries need debt finance in order to be able to grow. That original debt, for instance, was used to buy tractors – material of immediate financial benefit to the Zambian economy. Zambia either didn't have the money to buy the tractors outright, or it felt it had better use for that money, so it borrowed the money instead. But if it can't pay for its tractors in the present, all that means is that it has to pay for the tractors in the future. If Zambia wants to invest in its economy today, it will similarly have to borrow money. But no one will lend the country anything if Zambia can simply decide on a whim to stop repayment agreements made as recently as 2003.
There's a fascinating subplot running through the Donegal-Zambia case about corruption. The anti-Donegal types mutter darkly about the fact that Zambians may or may not have accepted bribes from people who may or may not have had association with Donegal, before signing the 1999 and 2003 agreeements. As a result, they say, any repayment obligations associated with those agreements are null and void. (Or, to use the legal term, ex turpi causa, known in the US as "unclean hands".) The world of distressed debt is secretive and shadowy, and in his 134-page ruling, Mr Justice Andrew Smith spends a lot of time trying to unpack who paid what to whom, and when and why. Although he finds Donegal's evidence unreliable on many occasions, ultimately he does side with them. And the main allegation of outright bribery relates to a payment of just $4,000 – which, as the judge says, "seems to me a very modest payment if the Acknowledgment [the 1999 agreement] had the value to Donegal that Zambia assert."
Palast tends to ignore the $4,000 payment and concentrate more on a much larger payment of about $2 million in debt that Donegal made to Zambia's Presidential Housing Initiative (PHI) in 1999. This payment is very much in line with the kind of thing that Donegal's principal, Michael Sheehan, used to do before he founded Donegal, when he worked at an American not-for-profit corporation called Debt-for-Development Coalition, Inc. The idea behind the non-profit was exactly the same as the idea behind more contemporary calls for debt relief: that if a country owes money to a creditor, then the creditor writing off the debt has the same kind of development effects as the creditor donating money to the country in question. Donegal's donation was debt relief, which makes it kinda ironic that Palast is so keen to portray it as a bribe.
It's worth noting that Zambia's PHI was a real development initiative, and that Donegal's donation of $2 million in debt was not a bribe to any individual. It's true that Donegal's donation was not entirely selfless. When Zambia accepted the donation, it acknowledged formally and legally that Donegal did indeed own the debt that it was donating, and that the debt was legitimate. Both of these things were true. But from a tactical legal standpoint, the acknowledgment was something of a mistake, because until that point Donegal would have found it very difficult to successfully sue Zambia for recovery of the money it was legitimately owed.
Yet even after getting that formal acknowledgement, still Donegal did not sue Zambia for anything. Instead, it looked for debt-to-equity conversion opportunities: swapping its debt for ownership of a Zambian lottery, or a local bank, or Kafue Textiles, or other parts of the Zambian privatization program. It was only when these ideas went nowhere that Donegal started negotiating with Zambia for repayment in cash. Naturally, Donegal threatened legal action should they not come to an agreement, and indeed did eventually start to sue Zambia in the British Virgin Islands. While that litigation was pending, in 2003, Zambia and Donegal signed an agreement whereby Zambia would pay Donegal back 33 cents on the dollar.
Zambia made a few payments under the 2003 agreement before defaulting again. And so yet again Donegal started negotiating with Zambia. Donegal could have declared default as early as October 2003, thereby trebling the amount of money they were owed – but they didn't, preferring intead to negotiate in good faith with Zambia for the arrears that Zambia owed under the agreement they had signed just a few months earlier. It was only when it became abundantly clear that Zambia had no interest in remaining current on the agreement that Donegal finally declared Zambia in default, ultimately giving rise to the proceedings which culminated in the court case in London.
Much of the literature on this case makes it seem as though Donegal simply bought debt from Romania for about $3.3 million, then turned around and sued Zambia for over $50 million, including legal fees. In fact, Donegal spent many years in negotiation with Zambia before it ever sued anybody for anything. It is Zambia, not Donegal, which has most egregiously violated its legal agreements, and it is Zambia which has chosen to spend its money on expensive lawyers rather than simply follow through on its own promises. Really, it's the Zambians, not Donegal, who decided on a litigation strategy. It turns out that their strategy was not successful, and that they would have been better off simply paying Donegal what they agreed to pay Donegal in 2003. That's not Donegal's fault – it's Zambia's.
Palast also tries to explicitly tie the money that Donegal is receiving as a result of these court proceedings to the debt relief that Zambia has received from rich countries under the Heavily Indebted Poor Countries (HIPC) initiative. He asks Donegal's Sheehan, in an ambush interview, "aren’t you just profiteering from the work of good people who are trying to save lives by cutting the debt of these poor nations?". But in fact Sheehan's court case against Zambia has no relation whatsoever to the HIPC initiative, and would surely have gone ahead whether or not Zambia received debt relief from the Paris Club of creditor nations or the World Bank or the IMF or anybody else. If Gordon Brown gives Zambia debt relief and Michael Sheehan doesn't, that doesn't mean that Michael Sheehan is "profiteering" from Gordon Brown's work. It just means that Zambia doesn't need to repay Gordon Brown on top of what it needs to pay Michael Sheehan.
There's one other big beef which Palast, and Leonard, and Seager, and other journalists covering the case, seem to have with Sheehan: that he's making a profit on his transaction. Well, yes, he is. But profit, in and of itself, is not a bad thing. There are plenty of other financiers who are making much more money than Sheehan, and some investors, such as Warren Buffett, are treated not as villains but as heroes for their ability to make money.
It's also worth noting that Sheehan's profit isn't nearly as large as most of the journalists are making out. The stories concentrate on the $55 million that Donegal is claiming, rather than the $20 million or so that Donegal is likely to actually receive at the end of the day. And they tend to ignore the fact that Zambia really did borrow a lot of money back in 1979 to buy tractors – money on which it agreed to pay interest. If you take the $15 million or so that Zambia borrowed, and add on any reasonable interest rate on top of that, the result will take you to far more than the $20 million that Donegal is going to receive in settlement of that debt, including its own non-negligible legal costs. The real loser in this whole case is not Zambia but Romania, which sold its $30 million debt for $3.3 million. Even there, however, Donegal is a hero: Romania was in negotiations to sell the debt back to Zambia, but because there was another bidder involved (Donegal), Romania ended up receiving roughly twice as much money as it would otherwise have been able to receive.
Donegal's opponents like to portray Zambian sovereign debt as debt of the Zambian people. Here's Peter Otto:
While the judge was bound by the law to find in favour of the vulture fund, it is disappointing that he did not give a more imaginative decision. Remembering the judge in The Merchant of Venice, it would have been more to the point to require Michael Sheehan of Donegal International to collect the money "owed" in person from each of the Zambians, in cash. I think $7 per head is about right. And to add a clear explanation to each one as to why they should not eat for the following week would make the "justice" more personal.
Does Otto really think it would be more just for Donegal to force individual Zambians to pay $7 each in cash than for Donegal to receive $20 million from a company owned by the Zambian ministry of finance? ($7 multiplied by Zambia's population of 11.5 million comes to over $80 million, so maybe $1.75 might have actually been more apropos.) Does he think that forcing individuals to starve is a good way of paying sovereign debts? Because certainly Zambia can pay this debt without forcing any Zambians to go without food.
And more to the point, does it make sense to think of a sovereign debt as being owed by the citizens of that country severally? Let's say that the US government owes China $1 trillion. Should the Chinese government try to collect more than $3,000 from each US citizen, in cash? Maybe it should just go to each person and collect $150 or so in annual interest payments? Sovereigns, and sovereigns alone, have the ability to demand payments from their citizens. (They're called taxes.) And so far, there has been no indiation whatsoever that Zambia will raise taxes as a result of this judgment. So let's be a little bit careful with the rhetoric.
And let's not take articles like this one from Ashley Seager, claiming that "President Bush could come to the aid of Zambia," too seriously either. If you've come this far in this blog, you'll be able to pick out the weaknesses in the report quite easily. For instance, Seager says that
Donegal bought the debt, with a face value of $30m, from Romania in 1999 for less than $4m. Zambia agreed to pay Donegal $15m in return for a payment to the then president's favourite charity. This payment, exposed by Mr Palast but which Mr Sheehan denies was a bribe, could mean Donegal falls foul of the US Foreign Corrupt Practices Act.
The idea that Zambia agreed to pay Donegal "in return for a payment to the then president's favourite charity" is profoundly silly. After all, the payment to the charity was in the form of the very debt which Zambia was agreeing to pay. If the debt was worthless, then the donation to charity was worthless. And the payment was hardly "exposed by Mr Palast" – it's all there in Zambia's defense papers, and I'm sure that Palast was simply given the information on a plate by William Blair, QC.
(For the record: I have spoken to nobody about this subject since the Zambia news started coming out. All of my information comes from publicly-available sources, primarily the court judgment in the UK. I have never spoken to Michael Sheehan or any of his colleagues. I have spoken to some of the principals at Elliott Associates in the past. But since my story on their Congo case, I seem to have persona non grata status there, and I doubt that they would consider me particularly friendly to vulture funds in general.)
But back to that alleged bribe. Here's some of what the judge has to say about the payment to PHI, and Zambia's claim that Donegal's offer to make a payment to PHI was tantamount to a bribe:
There is no reason to suppose that [PHI] was inherently an improper scheme or that it was set up with improper motives or that Donegal did or should have supposed at any relevant time that the PHI was other than a worthy scheme...Mrs Chibanda was aware, before the debt was assigned by Romania to Donegal, that the purchasers of the debt had indicated that they might contribute, or that they proposed to make a contribution, to the PHI... However, there is no reason to suppose that that information was given to Mrs Chibanda covertly, ...and it is apparent from Mr Mbewe’s evidence that she did not keep that information secret. It has been suggested that the information was given to Mrs Chibanda in order to influence her to obstruct the delegation’s proposal, and so was something in the nature of a bribe or improper inducement... I am unable to accept that. The mischief of bribes, or secret commissions, is that they are secret. It might be that Mrs Chibanda thought that the prospect of support for the PHI was attractive, and it might be that... Mrs Chibanda thought that the potential benefit to Zambia of having finance for housing those on low incomes was something properly to be weighed when deciding upon the relative benefits of Zambia buying back the debt and allowing it to be bought by a third party. I am unable to conclude that it was in itself improper for Mrs Chibanda to be made aware of the possibility that Donegal might contribute to the PHI.
In other words, nothing improper happened.
As for the idea in the Guardian article that "Mr Bush has the power to block collection of debts by vulture funds, either individual ones or all of them, if he considers it to be at odds with US foreign policy," I'm not entirely clear where that comes from. Apparently Congressman John Conyers thinks that "the Foreign Corrupt Practices Act and the comity doctrine brought from our constitution allows the president to require the courts defer in individual suits against foreign nations" – and that's something I simply don't understand.
In any case I'm quite sure that Treasury, if and when they get wind of such a proposal, would swiftly squash it. There are hundreds of billions of dollars of dollar-denominated sovereign bonds traded under New York law, and all of them include a waiver of sovereign immunity. It seems to me that Conyers is asking Bush to reinstate precisely that sovereign immunity which the bond issuers have voluntarily waived – and that's something that no debt-issuing country would want. If countries reverted to having absolute sovereign immunity in New York courts, then none of them could ever borrow money in dollars again. Capital flows to emerging-market countries would dry up overnight, and there would probably be an enormous rush to dump any bonds issued under New York law – creating a monster liquidity crisis in the financial markets, and probably consigning most of Latin America, at the very least, to another brutal recession like that seen in 1998. So the chances of anything like this happening are precisely zero, even if it were constitutionally possible, which I doubt it is.
The fact is that private-sector capital flows to emerging markets are vastly larger and more important for development than public-sector flows from the likes of the World Bank. All of those private-sector capital flows are predicated, ultimately, on contract law. When trillions of dollars in flows are based on contract law, eventually some contracts are going to end up in court. And when a country gets taken to court, sometimes it will lose.
But if you add up all of the judgments awarded against all of the emerging-market countries which have ever been sued in the history of the international capital markets, the final number would be so minuscule in comparison with the magnitude of international capital flows to emerging-market sovereigns that it would barely constitute a rounding error. And yet the tiny outside chance that a country might one day be taken to court is absolutely crucial if that capital is to continue to flow. Big institutional investors don't like doing the work of suing sovereigns, so they essentially outsource that work by selling their defaulted debt to vulture funds. People might not like what the vulture funds do, but what they do is utterly necessary for everything else to function smoothly.
Oxfam has launched a campaign against Donegal entitled "Don't let the debt vultures make a killing". They should remember that vultures don't kill anything. There are lots of reasons why Zambians are living in abject poverty today, and Donegal's lawsuit is not one of them. Vulture funds create the conditions under which countries like Zambia can raise money for investments in health, education, and infrastructure. Maybe Oxfam should consider sending them a thank-you letter instead.
Posted by Felix at 23:00 EST
http://www.felixsalmon.com/000667.html
Chew on that.
It follows below:
In defense of vulture funds
Greg Palast is an admirably bulldoggish reporter. Pop over to his blog, and you'll see that the last six entries are all on the subject of vulture funds in general, and the Donegal vs Zambia case in particular. Palast reported on the subject for BBC's Newsnight: You can see the full video here, or get essentially the same gist in text form here.
At the same time, the Guardian's Ashley Seager has been following the news of the case from a decidedly Palastian perspective. Here are some of his recent headlines, which give a pretty good idea of the tone he's taking:
'Vulture' feeds on ZambiaCourt lets vulture fund claw back Zambian millionsBush could block debt collection by 'vulture' funds
All of this reporting is predicated on the basic notion that vulture funds are inherently evil things, doing things which can and should be banned. (This notion is not confined to leftist journalists, by the way. It is shared by sophisticated international economists, such as Anne Krueger, the former first deputy managing director of the IMF.)
I am broadly sympathetic to where people like Palast and Seager and Krueger are coming from: I think that debt relief for heavily-indebted poor countries is a very good idea, and I think that poor Africans struggling under their governments' enormous debt burdens care little about distinctions between different types of creditors and other matters which I'm going to discuss here.
At the same time, however, I've seen the vulture funds get almost no defense in the press, and there are in fact quite a lot of reasons why they perform a good and useful function. (In this respect, they're rather similar to the birds after which they're named.) So read Palast if you want the argument against the vultures: What I'm going to write here is a deliberately one-sided defence of what they do and how they do it. With luck, I'll be able to get Palast to respond.
(One big hat-tip before I start, to Andrew Leonard, whose blog entry on the subject I read just as I was heading into a completely unconnected meeting with Palast's wife on Thursday. Another participant in the meeting asked for a "primer" on all this: I think between Palast's stuff and my own, we should be most of the way there – assuming that the length of this entry doesn't disqualify it from primer status.)
So. What is a vulture fund? Here's Palast's definition (actually, I should be accurate here – the byline on the piece is actually Newsnight's Meirion Jones, who was the producer on Palast's report):
Vulture funds - as defined by the International Monetary Fund and Gordon Brown amongst others - are companies which buy up the debt of poor nations cheaply when it is about to be written off and then sue for the full value of the debt plus interest - which might be ten times what they paid for it.
There's a lot of stuff to unpack here. But to begin at the end, vulture funds – or distressed-debt investors, as they prefer to be known – are no great fans of litigation strategies. Yes, they do sue countries in US and UK courts, on occasion. But there are lots of other ways they can make their money. For instance, consider a vulture distressed-debt fund which bought Ecuadorean Brady bonds at 25 cents on the dollar in 1999 after that country defaulted, and then tendered into Ecuador's 2000 debt exchange, in which bondholders were given securities worth about 70 cents on the dollar. That was a highly lucrative trade, which involved no legal fees and which probably made more money, in terms of annualized return net of fees, than most if not all of the litigation strategies which vulture funds get into.
As for debt which "is about to be written off", that might be true in the Donegal-Zambia case, but it is far from being the norm. In fact, I don't know of any other distressed-debt situation in which a vulture fund "swooped in" (sorry, these things are unavoidable) and bought debt which was about to be cancelled. I daresay there might be one or two situations that I don't know about, but such trades are emphatically not the norm. In the vast majority of situations, vulture funds buy debt from investors who, for whatever reason, no longer want to hold it. And in doing so, they provide a very useful service.
Consider this: You're an investor, and you buy the bonds of the sovereign nation of Ruritania for 100 cents each. The bonds pay their 7% interest for a couple of years and you're happy, until one morning Ruritania decides it is going to default and not pay you anything. Now what do you do? "Oh well," you can say to yourself, "easy come, easy go, I guess I lost all of my money". You could say that, but that would be pretty unlikely, because you're a bond investor – and bond investors tend to be reasonably risk-averse. If you wanted to risk losing all your money, then you would have invested in something much riskier, like stocks.
But that's not your only option. A bond is, after all, a legal contract, and Ruritania is contractually obliged to pay you your interest and principal in full and on time. Just as your bank can sue you if you stop making your mortgage or credit-card payments, you can sue Ruritania if it stops making its coupon payments.
But there's a problem here. Legal fees are expensive, and you don't have any money. What's more, Ruritania has high-powered lawyers of its own, such as William Blair QC, Tony Blair’s brother, and can call at will on the awesome might of huge international law firms such as Cleary Gottlieb Steen & Hamilton. There's no way you can even retain, let alone afford, that kind of legal firepower – and in any case you have no appetite for a drawn-out legal fight which could last for years. What's more, even if you win the legal fight, there's still no guarantee that Ruritania will have any more respect for a court judgment in your favor than it had for the original bond contract. In other words, you could win in court and still be no better off than you were to begin with – worse off, in fact, since you'd be down all those legal fees.
Back to square one, then, it would seem: You've lost all your money. Except – there is one more option. Bonds, after all, are securities, which can be bought and sold. At any point in time, including now, any bondholder is free to sell his bonds to the highest bidder (or anyone else). And it turns out that in the market for Ruritanian bonds, there is a bid at 50 cents on the dollar. Rather than losing your entire 100-cent investment, you can sell your bonds for 50 cents instead, and lose only half rather than all of your money. Ruritanian debt hardly turned out to be a fabulous investment, but at least it didn't wipe you out completely.
Who would pay 50 cents on the dollar for Ruritanian debt? Well, bonds in default are known as "distressed debt", so by definition anybody buying such a thing is a distressed-debt investor. Or, to use the more abusive term, a vulture. From the point of view of bondholders, however, these particular vultures look more like white knights. Many large institutional investors will never pursue legal strategies against deadbeat debtors: that's simply not their skill-set. And most of them aren't even allowed to hold defaulted debt in the first place: they're forced to sell their bonds if an issuer defaults. So what they need in such a situation is a market in such instruments which will give them some kind of non-negligible recovery value on their defaulted paper. Without such a market, there's a good chance that they would never take the risk of investing in any foreign country's debt in the first place.
I can hear Palast in the back of my head already. "Good!," he's saying. "Countries shouldn't run up burdensome debts which will ultimately have to be repaid, with interest, by poor future generations." Well, Palast is entitled to think that – if, indeed, that's what he thinks. There's certainly a case to be made that development institutions such as the World Bank should move away from loans and towards more grants to poor countries. I'm not going to get into that debate here. I'm simply going to point out that ever since the 18th Century, successful nations have been those which have been able to finance themselves through the issuance of debt securities. (See James Macdonald for much, much more on this idea.)
More generally, debt is a Good Thing. On a personal level, few of us would ever be able to buy a car or a house without some kind of debt finance – and on a sovereign level, countries which desperately need roads or ports or schools or hospitals can build them today, rather than having to save up for years before being able to build them, only because they can raise debt capital. Obviously, too much debt is a bad thing – that's what "too much" means. But every democracy in the world borrows money, and it's the worst type of paternalism to tell poor countries that they can't or shouldn't do something which all countries do and which its own citizens have voted for.
For debt finance to work, you need three things: a borrower, a lender, and a contract. The contract can be as simple as a verbal agreement that "I'll pay you back tomorrow," or it can be an inch-thick loan agreement with repayment schedules and covenants and negative pledges and waivers of sovereign immunity. But the important thing is that the borrower contracts to repay the lender. And one of the interesting things that lenders have learned over the years is that abstract sovereign entities, such as governments, are actually more reliable in this respect than sovereign individuals, such as kings or emperors. Governments can and do repay their debt for ever. (Britain started issuing perpetual bonds in 1853, and by 1935, perpetual bonds made up more than 60% of the UK's debt issuance.) Individuals, by contrast, die – and when they do, it's often impossible to collect on their unsecured debts. Today, the safest debt instruments in the world are US Treasury bonds – the sovereign debt of the US government. Indeed, the rate of return on Treasury bonds is known as the "risk-free rate".
So there's nothing obscene about the idea that governments should owe individual creditors money, and there's nothing remotely unusual about those debts being enforceable in a court of law. Pretty much every government in the world, with the possible exception of Cuba, has implicitly accepted the fact that they are responsible for the debts incurred by previous governments – and that, in turn, they can compel future governments to make certain repayments. Every so often, sovereign debts become overwhelming, and they are restructured by the mutual agreement of the debtor and its creditors. But outright repudiations of outstanding debt are very rare – and even when they do happen, as in the case of Cuba, the bonds continue to trade on the secondary market for 30 cents on the dollar or more – in the expectation that, sooner or later, a future Cuban government will finally make good on the debt.
If a government defaults on its obligations, then, the debt doesn't simply disappear. It's still there – and, sooner or later, it will have to be dealt with. Vulture funds are long-term investors who buy defaulted debt and then try to persuade the issuer to deal with it. Because they buy the debt cheap, they're often willing to settle at much less than face value – in the famous case of Elliott vs Peru, for instance, the vulture fund, Elliott Associates, made numerous attempts to settle with Peru at a discount, all of which failed. So Elliott resorted to litigation, and eventually got paid off, by Peru, in full.
Here's how Palast puts it (it's worth knowing that Paul Singer is the founder of Elliott Associates):
Newsnight went to New York to try to interview Paul Singer - the reclusive billionaire who virtually invented vulture funds.In 1996 his company they paid $11m for some discounted Peruvian debt and then threatened to bankrupt the country unless they paid $58m. They got their $58m.Now they’re suing Congo Brazzaville for $400m for a debt they bought for $10m.
I have some idea where the $400 million number comes from – I'm very familiar with the Congo case, having written about it at length in the September issue of Euromoney. I think that here Palast is wrong, and that he's confusing the amount that Elliott is claiming from Congo with the amount that Elliott is claiming from French bank BNP Paribas in a separate, if related, case. And as for Elliott threatening "to bankrupt" Peru – what does that even mean? The only thing that Elliott threatened was that they would try to attach payments which Peru was making to other creditors. Elliott's position was simply that Peru shouldn't be able to get away with paying some of its creditors in full and on time, while ignoring the claims of other creditors of equal or greater seniority. How that's related to bankruptcy, I have no idea.
But back to Donegal vs Zambia. In this case, Donegal and Zambia signed an agreement in April 2003, enforceable under UK law, under which Zambia would make certain debt payments to Donegal. Prior to that, in 1999, Zambia had officially recognized Donegal as a legitimate creditor. In the 2003 agreement, Donegal settled its $44 million debt for 33 cents on the dollar, to be repaid over the course of 36 monthly payments. Does that sound to you like they sued for repayment in full? Not at all: they were perfectly happy to take 33 cents on the dollar, and signed a legally binding agreement to that effect. It was only after Zambia defaulted on the 2003 agreement that Donegal took Zamiba to court, under the terms of the same legally binding agreement that had allowed Zambia to pay Donegal just 33 cents on the dollar.
It's worth bearing in mind, here, that if Zambia had simply paid Donegal the payments it agreed to make in 2003, neither Palast nor anybody else would even have noticed, let alone cared. A country making debt repayments is simply not news. But when Zambia stopped paying and Donegal sued, then, suddenly, Zambia making the debt payment is tantamount to Donegal killing children, or at the very least preventing them from being educated. In the BBC piece, Palast finds a Zambian who says that if the country makes the payment, "you are talking about in excess of 300,000 children being prevented from going to school" – as if the payment is coming out of Zambia's education budget, which it clearly isn't. (In fact, it's coming out of Mofed, a UK company owned by the Zambian ministry of finance.)
Half of the outrage against Dongeal comes from the fact that it is pursuing a legal strategy against Zambia – that it's using a UK court to force Zambia to pay up. But it's worth bearing in mind here that Zambia has broken its legally binding promises with regard to this debt not once but three times. It defaulted on the original debt it owed to Romania and which it promised to pay Romania in 1979; it broke its 1999 agreement with Donegal that it would recognize the transfer of the debt from Romania to Donegal; and it broke its 2003 agreement with Donegal setting out a repayment schedule at a highly discounted rate.
Zambia's apologists would have you believe that we should pay no attention to the country's previous promises. Zambia is poor, they say, and therefore it should be able to break its promises with impunity. But that simply doesn't work. Countries need debt finance in order to be able to grow. That original debt, for instance, was used to buy tractors – material of immediate financial benefit to the Zambian economy. Zambia either didn't have the money to buy the tractors outright, or it felt it had better use for that money, so it borrowed the money instead. But if it can't pay for its tractors in the present, all that means is that it has to pay for the tractors in the future. If Zambia wants to invest in its economy today, it will similarly have to borrow money. But no one will lend the country anything if Zambia can simply decide on a whim to stop repayment agreements made as recently as 2003.
There's a fascinating subplot running through the Donegal-Zambia case about corruption. The anti-Donegal types mutter darkly about the fact that Zambians may or may not have accepted bribes from people who may or may not have had association with Donegal, before signing the 1999 and 2003 agreeements. As a result, they say, any repayment obligations associated with those agreements are null and void. (Or, to use the legal term, ex turpi causa, known in the US as "unclean hands".) The world of distressed debt is secretive and shadowy, and in his 134-page ruling, Mr Justice Andrew Smith spends a lot of time trying to unpack who paid what to whom, and when and why. Although he finds Donegal's evidence unreliable on many occasions, ultimately he does side with them. And the main allegation of outright bribery relates to a payment of just $4,000 – which, as the judge says, "seems to me a very modest payment if the Acknowledgment [the 1999 agreement] had the value to Donegal that Zambia assert."
Palast tends to ignore the $4,000 payment and concentrate more on a much larger payment of about $2 million in debt that Donegal made to Zambia's Presidential Housing Initiative (PHI) in 1999. This payment is very much in line with the kind of thing that Donegal's principal, Michael Sheehan, used to do before he founded Donegal, when he worked at an American not-for-profit corporation called Debt-for-Development Coalition, Inc. The idea behind the non-profit was exactly the same as the idea behind more contemporary calls for debt relief: that if a country owes money to a creditor, then the creditor writing off the debt has the same kind of development effects as the creditor donating money to the country in question. Donegal's donation was debt relief, which makes it kinda ironic that Palast is so keen to portray it as a bribe.
It's worth noting that Zambia's PHI was a real development initiative, and that Donegal's donation of $2 million in debt was not a bribe to any individual. It's true that Donegal's donation was not entirely selfless. When Zambia accepted the donation, it acknowledged formally and legally that Donegal did indeed own the debt that it was donating, and that the debt was legitimate. Both of these things were true. But from a tactical legal standpoint, the acknowledgment was something of a mistake, because until that point Donegal would have found it very difficult to successfully sue Zambia for recovery of the money it was legitimately owed.
Yet even after getting that formal acknowledgement, still Donegal did not sue Zambia for anything. Instead, it looked for debt-to-equity conversion opportunities: swapping its debt for ownership of a Zambian lottery, or a local bank, or Kafue Textiles, or other parts of the Zambian privatization program. It was only when these ideas went nowhere that Donegal started negotiating with Zambia for repayment in cash. Naturally, Donegal threatened legal action should they not come to an agreement, and indeed did eventually start to sue Zambia in the British Virgin Islands. While that litigation was pending, in 2003, Zambia and Donegal signed an agreement whereby Zambia would pay Donegal back 33 cents on the dollar.
Zambia made a few payments under the 2003 agreement before defaulting again. And so yet again Donegal started negotiating with Zambia. Donegal could have declared default as early as October 2003, thereby trebling the amount of money they were owed – but they didn't, preferring intead to negotiate in good faith with Zambia for the arrears that Zambia owed under the agreement they had signed just a few months earlier. It was only when it became abundantly clear that Zambia had no interest in remaining current on the agreement that Donegal finally declared Zambia in default, ultimately giving rise to the proceedings which culminated in the court case in London.
Much of the literature on this case makes it seem as though Donegal simply bought debt from Romania for about $3.3 million, then turned around and sued Zambia for over $50 million, including legal fees. In fact, Donegal spent many years in negotiation with Zambia before it ever sued anybody for anything. It is Zambia, not Donegal, which has most egregiously violated its legal agreements, and it is Zambia which has chosen to spend its money on expensive lawyers rather than simply follow through on its own promises. Really, it's the Zambians, not Donegal, who decided on a litigation strategy. It turns out that their strategy was not successful, and that they would have been better off simply paying Donegal what they agreed to pay Donegal in 2003. That's not Donegal's fault – it's Zambia's.
Palast also tries to explicitly tie the money that Donegal is receiving as a result of these court proceedings to the debt relief that Zambia has received from rich countries under the Heavily Indebted Poor Countries (HIPC) initiative. He asks Donegal's Sheehan, in an ambush interview, "aren’t you just profiteering from the work of good people who are trying to save lives by cutting the debt of these poor nations?". But in fact Sheehan's court case against Zambia has no relation whatsoever to the HIPC initiative, and would surely have gone ahead whether or not Zambia received debt relief from the Paris Club of creditor nations or the World Bank or the IMF or anybody else. If Gordon Brown gives Zambia debt relief and Michael Sheehan doesn't, that doesn't mean that Michael Sheehan is "profiteering" from Gordon Brown's work. It just means that Zambia doesn't need to repay Gordon Brown on top of what it needs to pay Michael Sheehan.
There's one other big beef which Palast, and Leonard, and Seager, and other journalists covering the case, seem to have with Sheehan: that he's making a profit on his transaction. Well, yes, he is. But profit, in and of itself, is not a bad thing. There are plenty of other financiers who are making much more money than Sheehan, and some investors, such as Warren Buffett, are treated not as villains but as heroes for their ability to make money.
It's also worth noting that Sheehan's profit isn't nearly as large as most of the journalists are making out. The stories concentrate on the $55 million that Donegal is claiming, rather than the $20 million or so that Donegal is likely to actually receive at the end of the day. And they tend to ignore the fact that Zambia really did borrow a lot of money back in 1979 to buy tractors – money on which it agreed to pay interest. If you take the $15 million or so that Zambia borrowed, and add on any reasonable interest rate on top of that, the result will take you to far more than the $20 million that Donegal is going to receive in settlement of that debt, including its own non-negligible legal costs. The real loser in this whole case is not Zambia but Romania, which sold its $30 million debt for $3.3 million. Even there, however, Donegal is a hero: Romania was in negotiations to sell the debt back to Zambia, but because there was another bidder involved (Donegal), Romania ended up receiving roughly twice as much money as it would otherwise have been able to receive.
Donegal's opponents like to portray Zambian sovereign debt as debt of the Zambian people. Here's Peter Otto:
While the judge was bound by the law to find in favour of the vulture fund, it is disappointing that he did not give a more imaginative decision. Remembering the judge in The Merchant of Venice, it would have been more to the point to require Michael Sheehan of Donegal International to collect the money "owed" in person from each of the Zambians, in cash. I think $7 per head is about right. And to add a clear explanation to each one as to why they should not eat for the following week would make the "justice" more personal.
Does Otto really think it would be more just for Donegal to force individual Zambians to pay $7 each in cash than for Donegal to receive $20 million from a company owned by the Zambian ministry of finance? ($7 multiplied by Zambia's population of 11.5 million comes to over $80 million, so maybe $1.75 might have actually been more apropos.) Does he think that forcing individuals to starve is a good way of paying sovereign debts? Because certainly Zambia can pay this debt without forcing any Zambians to go without food.
And more to the point, does it make sense to think of a sovereign debt as being owed by the citizens of that country severally? Let's say that the US government owes China $1 trillion. Should the Chinese government try to collect more than $3,000 from each US citizen, in cash? Maybe it should just go to each person and collect $150 or so in annual interest payments? Sovereigns, and sovereigns alone, have the ability to demand payments from their citizens. (They're called taxes.) And so far, there has been no indiation whatsoever that Zambia will raise taxes as a result of this judgment. So let's be a little bit careful with the rhetoric.
And let's not take articles like this one from Ashley Seager, claiming that "President Bush could come to the aid of Zambia," too seriously either. If you've come this far in this blog, you'll be able to pick out the weaknesses in the report quite easily. For instance, Seager says that
Donegal bought the debt, with a face value of $30m, from Romania in 1999 for less than $4m. Zambia agreed to pay Donegal $15m in return for a payment to the then president's favourite charity. This payment, exposed by Mr Palast but which Mr Sheehan denies was a bribe, could mean Donegal falls foul of the US Foreign Corrupt Practices Act.
The idea that Zambia agreed to pay Donegal "in return for a payment to the then president's favourite charity" is profoundly silly. After all, the payment to the charity was in the form of the very debt which Zambia was agreeing to pay. If the debt was worthless, then the donation to charity was worthless. And the payment was hardly "exposed by Mr Palast" – it's all there in Zambia's defense papers, and I'm sure that Palast was simply given the information on a plate by William Blair, QC.
(For the record: I have spoken to nobody about this subject since the Zambia news started coming out. All of my information comes from publicly-available sources, primarily the court judgment in the UK. I have never spoken to Michael Sheehan or any of his colleagues. I have spoken to some of the principals at Elliott Associates in the past. But since my story on their Congo case, I seem to have persona non grata status there, and I doubt that they would consider me particularly friendly to vulture funds in general.)
But back to that alleged bribe. Here's some of what the judge has to say about the payment to PHI, and Zambia's claim that Donegal's offer to make a payment to PHI was tantamount to a bribe:
There is no reason to suppose that [PHI] was inherently an improper scheme or that it was set up with improper motives or that Donegal did or should have supposed at any relevant time that the PHI was other than a worthy scheme...Mrs Chibanda was aware, before the debt was assigned by Romania to Donegal, that the purchasers of the debt had indicated that they might contribute, or that they proposed to make a contribution, to the PHI... However, there is no reason to suppose that that information was given to Mrs Chibanda covertly, ...and it is apparent from Mr Mbewe’s evidence that she did not keep that information secret. It has been suggested that the information was given to Mrs Chibanda in order to influence her to obstruct the delegation’s proposal, and so was something in the nature of a bribe or improper inducement... I am unable to accept that. The mischief of bribes, or secret commissions, is that they are secret. It might be that Mrs Chibanda thought that the prospect of support for the PHI was attractive, and it might be that... Mrs Chibanda thought that the potential benefit to Zambia of having finance for housing those on low incomes was something properly to be weighed when deciding upon the relative benefits of Zambia buying back the debt and allowing it to be bought by a third party. I am unable to conclude that it was in itself improper for Mrs Chibanda to be made aware of the possibility that Donegal might contribute to the PHI.
In other words, nothing improper happened.
As for the idea in the Guardian article that "Mr Bush has the power to block collection of debts by vulture funds, either individual ones or all of them, if he considers it to be at odds with US foreign policy," I'm not entirely clear where that comes from. Apparently Congressman John Conyers thinks that "the Foreign Corrupt Practices Act and the comity doctrine brought from our constitution allows the president to require the courts defer in individual suits against foreign nations" – and that's something I simply don't understand.
In any case I'm quite sure that Treasury, if and when they get wind of such a proposal, would swiftly squash it. There are hundreds of billions of dollars of dollar-denominated sovereign bonds traded under New York law, and all of them include a waiver of sovereign immunity. It seems to me that Conyers is asking Bush to reinstate precisely that sovereign immunity which the bond issuers have voluntarily waived – and that's something that no debt-issuing country would want. If countries reverted to having absolute sovereign immunity in New York courts, then none of them could ever borrow money in dollars again. Capital flows to emerging-market countries would dry up overnight, and there would probably be an enormous rush to dump any bonds issued under New York law – creating a monster liquidity crisis in the financial markets, and probably consigning most of Latin America, at the very least, to another brutal recession like that seen in 1998. So the chances of anything like this happening are precisely zero, even if it were constitutionally possible, which I doubt it is.
The fact is that private-sector capital flows to emerging markets are vastly larger and more important for development than public-sector flows from the likes of the World Bank. All of those private-sector capital flows are predicated, ultimately, on contract law. When trillions of dollars in flows are based on contract law, eventually some contracts are going to end up in court. And when a country gets taken to court, sometimes it will lose.
But if you add up all of the judgments awarded against all of the emerging-market countries which have ever been sued in the history of the international capital markets, the final number would be so minuscule in comparison with the magnitude of international capital flows to emerging-market sovereigns that it would barely constitute a rounding error. And yet the tiny outside chance that a country might one day be taken to court is absolutely crucial if that capital is to continue to flow. Big institutional investors don't like doing the work of suing sovereigns, so they essentially outsource that work by selling their defaulted debt to vulture funds. People might not like what the vulture funds do, but what they do is utterly necessary for everything else to function smoothly.
Oxfam has launched a campaign against Donegal entitled "Don't let the debt vultures make a killing". They should remember that vultures don't kill anything. There are lots of reasons why Zambians are living in abject poverty today, and Donegal's lawsuit is not one of them. Vulture funds create the conditions under which countries like Zambia can raise money for investments in health, education, and infrastructure. Maybe Oxfam should consider sending them a thank-you letter instead.
Posted by Felix at 23:00 EST
http://www.felixsalmon.com/000667.html
Chew on that.
Thursday, April 16, 2009
Risk in Emerging Markets
Following up on the previous post about the great potential of emerging market funds, the following Investopedia excerpt has great advice on how to invest safely and smartly in emerging market funds in foriegn countires, beginning with the potential econimic and political risks associated with doing so:
Economic risk: This risk refers to a country's ability to pay back its debts. A country with stable finances and a stronger economy should provide more reliable investments than a country with weaker finances or an unsound economy.
Political risk: This risk refers to the political decisions made within a country that might result in an unanticipated loss to investors. While economic risk is often referred to as a country's ability to pay back its debts, political risk is sometimes referred to as the willingness of a country to pay debts or maintain a hospitable climate for outside investment. Even if a country's economy is strong, if the political climate is unfriendly (or becomes unfriendly) to outside investors, the country may not be a good candidate for investment.
Once these have been assessed, it's important to take the following points into consideration before investing in an emerging market fund:
Invest in a broad international portfolio
Invest in a more limited portfolio focused on either emerging markets or developed markets
Invest in a specific region, such as Europe or Latin America
Invest only in a specific country(s)
If invested in carefully and correctly, emerging markets often deliver quite lucrative returns.
Economic risk: This risk refers to a country's ability to pay back its debts. A country with stable finances and a stronger economy should provide more reliable investments than a country with weaker finances or an unsound economy.
Political risk: This risk refers to the political decisions made within a country that might result in an unanticipated loss to investors. While economic risk is often referred to as a country's ability to pay back its debts, political risk is sometimes referred to as the willingness of a country to pay debts or maintain a hospitable climate for outside investment. Even if a country's economy is strong, if the political climate is unfriendly (or becomes unfriendly) to outside investors, the country may not be a good candidate for investment.
Once these have been assessed, it's important to take the following points into consideration before investing in an emerging market fund:
Invest in a broad international portfolio
Invest in a more limited portfolio focused on either emerging markets or developed markets
Invest in a specific region, such as Europe or Latin America
Invest only in a specific country(s)
If invested in carefully and correctly, emerging markets often deliver quite lucrative returns.
Monday, April 13, 2009
The REAL Face of EMF's
"The world has emerged faster than our understanding of world markets has emerged."
That, from an article on Investopedia.com*, is an undeniable truth. In one sense, it is unfortunate how little most people, even veteran financiers, truly know about the real and sound potential in emerging market funds.
In another sense, however, this can been seen as an opportunity for those of us inclined and able to learn and understand these funds. More from the article:
"With the astounding growth that is happening in emerging markets, it is surprising that, as an asset class, they play a relatively small role in most U.S. investment portfolios - institutional and retail alike."
A commonly-accepted rule of thumb for emerging market exposure is to cap investments at 5%. The article insinuates, and I agree, that this rule is arbitrarily derived and thus may be outdated. In recent years, emerging market funds have grown considerably in average return to investors and have generally lessened in volatility, though let it be known that EMF's are, comparatively, a relatively volatile investment inherently. And that, my friends, is what makes them so appealing.
I'll leave you with this thought: "Part of what makes investing a challenge is that we have to avoid getting caught in a mind-set that doesn't keep pace with the evolving realities of the capital markets. Markets sometimes behave like geological tectonic plates - they can creep along for years undisturbed and then suddenly collide and create tremendous disruptions. These tectonic events affect a large amount of global wealth. Understanding how to make sense of them is a critical factor to achieving investment success."
*http://www.investopedia.com/articles/07/emerging_markets.asp
That, from an article on Investopedia.com*, is an undeniable truth. In one sense, it is unfortunate how little most people, even veteran financiers, truly know about the real and sound potential in emerging market funds.
In another sense, however, this can been seen as an opportunity for those of us inclined and able to learn and understand these funds. More from the article:
"With the astounding growth that is happening in emerging markets, it is surprising that, as an asset class, they play a relatively small role in most U.S. investment portfolios - institutional and retail alike."
A commonly-accepted rule of thumb for emerging market exposure is to cap investments at 5%. The article insinuates, and I agree, that this rule is arbitrarily derived and thus may be outdated. In recent years, emerging market funds have grown considerably in average return to investors and have generally lessened in volatility, though let it be known that EMF's are, comparatively, a relatively volatile investment inherently. And that, my friends, is what makes them so appealing.
I'll leave you with this thought: "Part of what makes investing a challenge is that we have to avoid getting caught in a mind-set that doesn't keep pace with the evolving realities of the capital markets. Markets sometimes behave like geological tectonic plates - they can creep along for years undisturbed and then suddenly collide and create tremendous disruptions. These tectonic events affect a large amount of global wealth. Understanding how to make sense of them is a critical factor to achieving investment success."
*http://www.investopedia.com/articles/07/emerging_markets.asp
Thursday, April 2, 2009
Sustainable Investment Assests Under EM Managers on the Rise
In the world of emerging market funds, this week brought more positive news. A study released the other day by the global consulting firm Mercer and commissioned by IFC reveals that sustainable investment assets undermanagement in emerging markets have grown to over $300 billion, almost 10 percent of total investment in emerging markets last year alone.
More encouraging still is the fact that emerging market fund managers are increasingly considering environmental, social and corporate governance (ESG) factors in their investment decisions.
Several notable key trends from the survey include:
More encouraging still is the fact that emerging market fund managers are increasingly considering environmental, social and corporate governance (ESG) factors in their investment decisions.
Several notable key trends from the survey include:
- Sustainable investment is a growth story in emerging markets
- Global investment managers who invest in EME products lead ESG investing
- Corporate governance is a well-understood concept in major emerging markets
- The environment and climate change are on the radar
- Social issues are best addressed by local emerging market managers
- ESG awareness as a risk management tool
(Source: "Gaining ground: Integrating environmental, social and governance (ESG) factors into investment processes in emerging markets," Mercer and IFC, March 2009)
This latest survey illustrates the reality that fund management in emerging markets is becoming increasingly more stable, dependable and sustainable.
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