BREAKINGVIEWS-Argentina's rally rests on same flimsy foundation

By Sebastian Pellejero

NEW YORK, Dec 2 (Reuters Breakingviews) - Wall Street's affection for Argentina remains, as ever, conditional. The South American country is once again attracting overseas capital after President Javier Milei's strong showing in recent mid-term elections. Global capital will applaud reformist zeal and chase a rising curve. Without clear rules, robust foreign exchange reserves, and stronger institutions, however, investors may not stick around for long.

Money managers have hardly been stingy. The premium for Argentine government debt over equivalent U.S. Treasury bonds has shrunk from roughly 14 percentage points in mid-September to about 6 percentage points by mid-November, according to JPMorgan, boosting hedge fund returns. The S&P MERVAL Index .MERV is up 47% since the election in late October. Local firms raised some $3.4 billion from foreign bond markets in three weeks, Bloomberg reported on November 19, more than in the previous five months combined.

While the rally is impressive, its underpinnings are flimsier. The International Monetary Fund has already granted Argentina a waiver on building up foreign exchange reserves and lowered targets for this year and next. Yet after spending billions to defend the peso, the Banco Central's stock of foreign currencies is roughly $12 billion short of covering its hard currency debt, after adjusting for its obligations to the IMF, China and others. A mooted $20 billion loan from JPMorgan JPM.N, Bank of America BAC.N, and Citigroup C.N quietly evaporated as the stock and bond rally picked up again.

Economy Minister Luis Caputo says this time will be different, telling The Wall Street Journal that Argentina will comply with and even surpass the IMF's targets. Argentines have heard similar promises before. In 2016, former President Mauricio Macri lifted capital controls without first securing fiscal discipline or building reserves, wagering that overseas money and a stable currency could buy time for reforms that never stuck. Within two years, the peso collapsed and the IMF arrived with its largest-ever bailout.

What's missing still is the unglamorous work of laying foundations. Last year's record $19 billion trade surplus came partly from a recession that crushed imports, not just stronger exports. Building sustainable FX reserves means boosting dollar earnings, whether by eliminating the export taxes that still hit soybeans, the country's largest export, or by easing controls that prevent companies from repatriating profits and repaying overseas debts.

Reassuring investors will also require a fiscal rule strong enough to survive the return of a left-leaning administration and a central bank independent enough to resist demands from the president's office. The government should also commit to a schedule for unifying official and black market exchange rates. In the longer run, Argentina will need a deeper local-currency debt market.

Past turnarounds show the importance of institutional groundwork. Chile, Poland, and Mexico built central bank independence and fiscal rules before opening their economies, while South Korea overhauled its industrial policy before courting foreign capital. Looking back, the foundations mattered more than the flows.

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CONTEXT NEWS

A planned $20 billion bailout to Argentina from JPMorgan Chase, Bank of America, and Citigroup has been shelved as bankers pivot to a smaller, short-term loan package, The Wall Street Journal reported on November 20, citing people familiar with the matter.

Emerging market and distressed debt hedge funds such as Shiprock Capital, ProMeritum, and Amia Capital booked strong gains in October from double-digit rallies in Argentina's U.S. dollar bonds and other assets, the Financial Times reported on November 19. The moves followed renewed U.S. support and a strong electoral showing by President Javier Milei, which helped stem a run on the peso.

Argentinian foreign debt issuance has reached $3.5 billion over the past three weeks, Bloomberg reported on November 19, topping the volume of the previous five months combined.