Argentina moves closer to bond market return with peso pivot

Argentina has moved closer to a return to international debt markets by addressing two key issues that have concerned investors: an overvalued peso and a shortage of hard-currency reserves.

The nation’s Central Bank said Monday it will begin to gradually unwind the tight grip it keeps on the currency. Starting in January, it will let it trade within a range that expands in line with inflation – effectively moving to a pace of about 2.5 percent a month, from a current one percent. Officials also said they’re going to start slowly buying up dollars to build back the Central Bank’s depleted cash stockpile without jolting the currency too much.

Put together, the policy changes add to President Javier Milei’s momentum at home and on Wall Street, where he looks to mount a comeback to global debt markets for the first time since his predecessor defaulted in 2020. While analysts widely welcomed the moves, they also warned Milei’s fight against inflation – which drove his popularity in the first half of his presidency – will be tougher with looser currency controls.

“The changes in the FX band system are a net positive for dollar bonds,” said Jared Lou, portfolio manager at William Blair. “External liquidity is currently the biggest risk in Argentina and this will help to alleviate concerns, and also accelerate the timeline for Argentina to regain market access.”

Yields are now close to 10 percent, a level officials have signalled to investors they would be comfortable issuing new notes – an infusion of dollars Argentina it could use to pay back foreign debt. Argentina has about US$4.5 billion due in January, and a similar amount for July.

Economy Minister Luis Caputo said on Tuesday that the January payment “isn’t a problem,” noting Argentina has about US$7 billion available from a bank repo, in addition to foreign-exchange swap lines, to cover it. The government may even refinance it, he added.

Last week, the country sold local-law dollar bonds in a move seen as a dry run for the resumption of overseas borrowing. The notes, due in November 2029, were priced to yield 9.26 percent. Demand for the US$1-billion sale reached US$1.42 billion, and the sale’s cash value allocation was US$910 million.

By aligning the so-called currency bands with inflation, officials are responding to investor concerns that the trading range wasn’t widening fast enough, which fuelled debate about an overvalued peso. On the other end, rebuilding reserves, albeit steadily, could boost confidence that the Central Bank will have more ammunition to defend the peso before a potential market shock in the future. Lack of reserves was one reason why the US Treasury bought pesos in October to steady markets and ultimately help Milei’s La Libertad Avanza party win the midterm elections.

“For investors, the announcement removes a major source of uncertainty around the FX regime and directly addresses our main concern: the lack of reserve accumulation,” said Thierry Larose, portfolio manager at Vontobel.

Milei now leads the biggest caucus in Congress and is pushing ahead with Argentina’s first budget bill in years, as well as a sweeping labor reform – both foreshadowing more economic legislation ahead on taxes and pensions. His renewed political strength has helped drive down Argentina’s sovereign risk after it spiked before the midterm elections. The spread to benchmark US Treasuries is just under 600 basis points, at the lowest in almost a year.

Behind the scenes, Central Bank officials are more focused on peso’s volatility – and how it affects demand for the currency – than targeting a specific exchange rate, according to a person with direct knowledge of the matter. In a country where locals save in dollars and earn in pesos, currency swings tends to erode demand for pesos, stoke inflation and, ultimately, upend politics.

To avoid that type of volatility Monday, Argentina’s Treasury purchased US$320 million outside the market – more than the US$300 million of regular trading volume for the day – to prevent pushing too many pesos onto traders and risk weakening the currency.

If the US$320 million had gone directly to the market Monday, “it probably would’ve affected” its stability and functioning, Central Bank Governor Santiago Bausili said.

Bausili’s Central Bank wants to keep interference limited, planning to buy only five percent of the daily volume in the foreign exchange market, and saying it could change course as money demand evolves, according to Monday’s statement. Officials know they need to monitor any drop in money demand that could reappear in January and February amid seasonality changes after bonus payments and holiday spending, the person said, asking not to be named discussing internal discussions.

At a press conference following the announcement, Bausili reiterated that the changes were still consistent with lowering inflation because officials anticipate money demand to expand next year alongside economic growth.

“This is a positive step,” says Martin Rapetti, executive director of Buenos Aires-based consulting firm Equilibra. The policy moves “add an element of inflationary momentum. As we’ve been saying for some time, it’s a cost worth paying.”