Historical evidence shows that the risk of re-default tends to remain high after sovereign distressed exchanges, according to Moody’s Investors Service in a report entitled ‘Sovereign Defaults Series: Investor Losses in Modern-Era Sovereign Bond Restructurings’, which analyses the modern history of sovereign bond defaults and the haircuts imposed on investors.
“Thirty-seven percent of the 30 sovereign debt exchanges since 1997 were followed by further default events,” said Elena Duggar, Moody’s group credit officer for sovereign risk and author of the report. “These high rates of re-default after a distressed exchange in the sovereign sector are similar to the experience in the global corporate sector and explain why ratings often remain low, in the Caa-C rating range, following distressed exchanges.”
Since 1997, there have been 30 distressed exchanges on sovereign bonds, by 22 sovereign issuers. Moody’s new report pinpoints four key findings:
- The average haircut experienced by investors in sovereign restructurings was 47%, comparable to the average loss experienced in the global corporate sector. The standard deviation around the average was large at 26%, with losses varying from 5% to 95%.
- Sovereign bond defaults typically started as a missed payment and involved a sequence of default events before being resolved via a distressed exchange. When the initial debt exchanges were small in relation to total debt, they were followed by further exchanges of private or official debt, even when haircuts in the initial exchange were large.
- Maturity extension was a much more common feature of restructurings than imposing nominal haircuts on the principal: the terms of the restructurings for all but one exchange included maturity extension, 81% involved reduction in interest rates, while 48% involved haircuts on the principal.
- The loss experienced in sovereign bond restructurings was somewhat correlated with the country’s debt-to-gross domestic product (GDP) ratio. In addition, losses have depended on the economic conditions in each country at the time of default, the features of the bond contracts, and on the dynamics of the debt-restructuring negotiations.