Argentina vs Vulture Hedge Funds: Who's the Bad Guy?

Fernando,

Your video on the ruling against Argentina was interesting because it passed moral judgment on hedge funds who buy bad debt in the hope that they can collect more money than they paid for that debt when they bought it.

I don't know all the details and motivations of the actors who are maneuvering to either not pay the loans or to make some "unreasonable" profit from their investment in the debt, but most of these things do not involve innocent people on either side.  However,

Let’s assume you borrow $100 from a bank.

And then you mismanage your finances or something happens and you cannot meet the schedule for repaying the bank, and the bank agrees to settle the debt if you will repay $35.

That means that the bank has lost $65 of its depositors’ money.

Those depositors have to be repaid by the bank or else the bank itself could default, go bankrupt, and leave all of its investors or depositors with monetary losses just because you did not pay back all of the money they had loaned to you through the bank.  That would be the equivalent of the people who had invested their money with the bank giving you a gift.

Of course, there is the fallback for the bank that the national government or whoever will insure them against certain types of losses, but if the any government is covering the risk then it means the government (in the case of Argentina, this means either the International Monetary Fund or other national governments which also are the ones who fund the IMF) are printing more money to cover your bad debt.  You know what the effect of this is:

·         Inflation downstream due to the increase of money in circulation.

·         Encouraging you and others to borrow money and then default on paying it back.  Creating a vicious circle.

Now, suppose that your bank had not held onto your loan, but sold it upstream to a larger bank or a hedge fund.  That larger bank or hedge fund has now made an investment in your loan using money that their customers entrusted to them.  Money does not come from “nowhere.”

Whoever owns your debt when you default is still going to lose money if you do not pay it back—and their depositors or their government or whoever insures the bank against such losses are going to have to absorb the loss because you did not honor the contract that you signed when you borrowed the money.

So—who is exploiting the system more—You who borrowed the money, and either through mismanagement or misfortune did not pay it back?  Or whoever is left holding your debt when you default on it?

Whether it is the hometown bank or a Wall Street bank or a hedge fund, they only loaned you the money or bought the note in the expectation that you would repay what you took.

Of course, their profit on the loan would be limited to the interest that you originally agreed to pay if only you had repaid the loan.

In the event it looks as if you will not be able to repay the loan, and your bank or whoever now holds the note does not want to take a total loss on it, perhaps there is somebody else who agrees to take the risk that you will not repay any of the loan, and who buys the loan from whoever holds it at this time for a very small amount of what you owe.  Whoever does buy such risky loans is betting that they can eventually recover more money than they invested (which is what you are trying to do if you do not repay any part of the loan).  Of course they want to maximize the amount they can recover—If they are in the business of buying bad debt, they lose money on some of them and make money on others—All with the aim of making more money than they lose.  Is that any more of a “vulture” behavior than your behavior when you fail to pay back the loan?  And especially if you perhaps never borrowed the money with the good faith intent to pay it back?

Actually, in this situation, one could wonder why anyone would lend money to those who are potentially at greatest risk of mismanaging their finances, or whose integrity is such that they are likely to do their best to avoid paying back their lenders, or who keep going back to get other governments and international financial institutions to cover their defaults.  If other countries and their financial institutions—private or public—stop lending Argentina money, what will that do to the quality of life for the citizens of that country?

This is interesting in part because it reflects what happened in the U. S. that brought on the housing bubble and financial collapse.

The government adopted a policy that required banks to ease lending to people who wanted to buy homes with easy terms that they could not actually pay back when repayment came due.  The borrowers were buying much more expensive houses than they could afford to pay for or continue to own, many borrowers were buying houses to flip quickly and use the money to buy one or two other houses that they also planned to flip for a profit, and mortgage lenders were processing these loans out of greed and under duress from the government who told them they had to make the loans [Oh, never mind, Freddie and Ginny are there to back up any losses].

Then, as the risky mortgages were repackaged and sold up the line to larger and larger banks and financial institutions (who hoped to get paid back, but who also bought insurance from AIG and others), the risk became owned by “Wall Street.”  In turn, Wall Street sold at least part of the debt overseas (Iceland, Ireland, and elsewhere) as part of managing its own risk.

I am surprised that nobody has talked about what would have happened if “Wall Street” had refused to buy the repackaged mortgages that were being sold up the line to them—But the government would have and might have exerted pressure on them to buy the debt rather than leave it at the lower levels in the financial pyramid:  In order to avoid another fiasco like the savings and loan collapse that happened in the 1980’s from just such a policy, and with a view that the level of risk would always be something that Freddie and Ginny would be able to cover!

However, recently I have heard some words from the Clintons about how the housing bubble originated on Main Street and not on Wall Street.  But this comes 20 years too late, since the whole policy originated as a Federal policy under Clinton and was allowed to continue right up until it imploded in 2007-2009.

-Larry

Hey Larry, good to hear from you, thanks for your email.

I understand what you say about paying back the money that you borrowed but I think there should be a limit to whats reasonable and whats not. It’s one thing to pay back your debt, its another when someone buys your debt with the only purpose in mind being to pick you clean for all you’ve got, and making 100 times what they paid for your debt a couple years later because they know they have the law in their pockets.

Expecting to get paid back is reasonable. Expecting to make a profit is reasonable, but expecting to get 100 or 1000 times as much money as you paid for is well beyond reasonable profit, especially when it has no explanation, no excuse other than you coming up with that number. Over 60% of Argentina lenders are getting paid back at a 20% rate for their bonds, some of the best rates in the market, but a smaller numbers of people, these vulture hedge funds, they are not interested in this because they knew they could get 1000% more, like they did in previous cases with Peru and Congo, because they own the courts.

Now dont get me wrong, no one here is innocent. I sure do know that very well. The argentine government is a bunch of murdering, corrupt scumbags of the worst kind. I just happen to think that the murdering scumbag that ruins the lives of 7 billion people is worse that the ones that ruin the lives of 40 million. Of course none of them are innocent in any way but I would get rid of the one that causes the most harm if I could only chose one. :-)

I think that the problem is that money is actually coming out of “nowhere.” At least when it comes to banks.

You mention banks or funds loaning money, did you know that banks actually loan money that doesnt exist, not even in digital form? A bank only needs about 1.000.000 real USD to be able to go out there and loan us poor suckers 40.000.000. The Fed allows that.

You see, when we no longer have money attached to something real like the case of the gold standard, big fish can start creating money out of thin air. That's the real problem here because you and me, we cant do that, we need real labor to create wealth, while the big fish just punches numbers in a computer, effectively enslaving us all.

Ok, I ranted enough, take care and thanks for sharing your thoughts!

FerFAL