Individual Enforcement Rights in International Sovereign Bonds

Abstract

Sovereign bonds are notoriously hard to enforce. What little rights bondholders have can be vested either collectively or individually. It seems that investors, particularly in the US market, traditionally had a preference for the latter, which hindered financial market reform projects, such as the universal adoption of collective action clauses in 2003.This paper uses a range of theoretical approaches to discuss whether it is indeed in the bondholder's collective interest to be allowed to individually sue and attach the debtor country's assets following a default. Furthermore, it examines the landmark case of Elliott Associates v. Peru to attempt a quantitative assessment of just how much sovereign bondholders actually value individual enforcement rights. I find that even the single most important event to reinforce creditor rights in recent years had no noticeable impact on bond prices.

Trustees versus fiscal agents and default risk in international sovereign bonds

“…This deterrence view of enforcement rights is open to scepticism as it appears to rest on a set of specific assumptions about the debtor's motives to default (Häseler, 2008). First, deterrence can play a role only if the debtor has some discretion over the continuation of debt service.…”

“…Meanwhile, as will be shown in more detail below, new bond issues have not relied on trust structures to the extent that their proponents would like to see. Häseler (2008) discusses several potential reasons for this lack of progress. Among them is the perception that bondholders' individual enforcement rights provide a necessary deterrent against opportunistic sovereign defaults, and that the reallocation of enforcement rights to a trustee would in consequence destroy this deterrent and would therefore cause a deterioration of market discipline.…”

“…This view has been expressed both by academics (Fisch and Gentile, 2004;Bedford, 2005) and by practitioners (Chamberlin, 2002). 4 While Häseler (2008) examines the market reaction over time to an event that reveals investor's attitudes towards collective enforcement rights more generally, this paper focuses specifically on the question as to whether bonds with collective enforcement rights -those governed by trust structures -are perceived as being in greater risk of default. This question is addressed for the first time through a number of tests based on a cross-section of international sovereign bonds.…”

Collective Action Clauses in Sovereign Bonds

“…Bonds are still being issued without CACs. And little progress has been made towards the proliferation of trust structures, which also hinges on the individual versus collective action divide (Häseler 2008). With this dual purpose in mind, we proceed to scrutinise in turn the position of investors and sovereign borrowers.…”

“…Fears about moral hazard appear to be premised on the assumption that the unpleasant prospect of a disorderly restructuring is a major factor in deterring borrowers from default. Häseler (2008) categorises various views of sovereign default to argue that such a deterrence effect cannot be very large. A sovereign debtor who defaults opportunistically has 1995 1996 1997 1998 1999 much to lose besides the costs of restructuring, namely first and foremost its reputation with the financial markets.…”