Pricing Sovereign Debt: Discretion v. Expropriation

The Greek restructuring of March 2012 illustrates how non-price contract terms can have a significant effect on the pricing of sovereign debt. In the Greek restructuring, bonds governed by local law suffered NPV haircuts in the range of 60-75%, whereas those bonds governed by foreign law were paid in full and on time. Other contract parameters such as the currency in which the debt is denominated and the exchange on which it is listed can also affect the leeway a sovereign debtor has in dealing with its creditors. In general, we find that sovereigns with strong institutions and investor protections are able to issue bonds under local parameters at relatively lower interest rates. In contrast, sovereigns with relatively weak investor protections have lower bond ratings and are forced to pay relatively higher interest rates on their debt. The important exceptions are those lower rated sovereigns who issue debt under foreign parameters. We believe that these sovereigns are able to obtain lower rates because by issuing bonds under foreign parameters, they reduce (eliminate) their ability to expropriate investors’ wealth once the debt is issued