On the 25th January, the Irish state will pay €1.25 billion to unsecured bondholders. As we all know, this equates to a half of our total cuts in the 2012 budget. A proportion of who we will pay are so-called vulture funds who “prey” on a country’s depressed debt. So while we struggle to cut services in order to pay these bondholders, these vulture funds will profit. Let’s have a look at who’s profiting and how.
As Eurozone countries scramble to save the fledgling currency, others see the opportunity to invest and profit. The possibility of sovereign default brings the vultures to our door – in the name of vulture funds.
A vulture fund, or debt depressed fund, is a hedge fund, which buys up a cheap debt, largely as a result of a high threat of default, for a rock-bottom price and then negotiates a settlement for a higher amount than the rock-bottom price they paid. If that fails – perhaps because the vulture funds want it to – it sues the country or firm for an inflated amount (as a result of interest) in a court, which legally allows the practise. The use of the word “vulture” to describe such a fund is because it is similar to vultures circling a dead or almost dead corpse, which they intend on devouring.
The most notorious example of vulture fund activity is that of Donegal International, run by an American named Michael “Goldfinger” Sheehan, which sued Zambia for $55 million in a British Virgin Islands court in 2007.
The deal applied to a debt, which was sold by Romania in the 1970s to Zambia. Due to economic problems in Zambia, they were unable to repay the debt. In 1999, Donegal International swooped in and, with Zambia on the verge of default, bought the debt off Romania for $3 million.
After they bought the debt, Donegal International say they made several attempts to negotiate a settlement before bringing an action against the Zambian state. “All of the proposals were rejected by Zambian officials, usually without any comment or written response”, says a website purportedly belonging to Donegal International. One of the proposals was for the firm to gain ownership of a Zambian bank.
Donegal International then sued Zambia for the original amount of the debit, plus the accumulated interest. In total $55 million. This was despite Zambia having already handed over $2.5 million to the firm. In court, after Donegal International were able to obtain an order to freeze Zambian assets in the United Kingdom, Donegal International were awarded $15.5 million. Five times the original they paid.
The judge said of his decision “[the decision] was based on a strict interpretation of the law and not on moral grounds”.
Such cases have brought the vulture funds to notoriety, but concerns have been expressed for a long time. In 2002, then Chancellor of the Exchequer in Britain, Gordon Brown, called vulture fund activities a “morally outrageous outcome”, amid growing concern vulture funds were inhibiting debt relief initiatives for African countries.
This Donegal International case was later profiled by BBC’s Newsnight. The attention and outrage garnered brought about laws in the United States and United Kingdom to outlaw the practise, but importantly this only applied to underdeveloped countries with vast amounts of debt. Hence, Irish debt is still fair game. Due to a loophole in legislation though, a case can still be brought by funds in the British offshore island of Jersey.
This was revealed in November 2011 when FG Hemisphere, run by multi-millionaire Peter Grossman, attempted to sue the Democratic Republic of Congo- the world’s poorest country – for 100 million dollars for a debt, which they bought for $3.3 million. The settlement has been blocked on appeal to the British Privy Council, amid mass media publicity and several calls for Jersey to close the loophole.
So where does that leave Ireland in all this? Well, like those African countries, Ireland has greatly devalued debt, which can be sold on secondary markets for cheaper and which has been restructured in recent years, for example Anglo Irish bank’s debt.
In June 2011, the Irish Times reported debt depressed fund Aurelius bought Anglo Irish Bank’s debt at 20 cent in the euro at the same time and level the bank was trying to buy back the debt.
The forced subordinated losses at AIB have seen Aurelius bring an action against the Irish state. “We attempted to reach a settlement before resorting to litigation, and the Finance Minister completely dismissed our overture”, Head of Aurelius, Mark Brodsky, told the Irish Times. Sound familiar? The Zambian Government may have heard it before.
As with the case of subordinated bondholders at publicly-owned Anglo Irish bank, the debts can be bought up for cheap and Ireland could see itself in court in a couple of years fighting against repayments multiple-times more than the original debts.
Another fund, Fir Tree Partners, brought Anglo-Irish bank to court in New York during its own debt restructuring in November 2011. The firm wished for its $200m investment in the bank to be protected from any loss incurred from Anglo’s debt restructuring plan. The case was dismissed by the judge.
In Greece, where the Government is currently negotiating a 70% debt write down, the banks who hold the debt are being pressurised by their Governments to accept the write-down, while the vulture funds, who have recently bought up the debt are eager to hold out.
At a 70% write down, with Greek bonds selling at 25 cents to the euro on the market, these funds would stand to make a 20% profit on their investment (The fund bought the debt for 25% of the original debt, Greece pays them back 30% of the original debt). Speculative investors – such as these vulture funds – are believed to hold up to €50 billion in Greek debt.
This means that when the Irish state pays unsecured Anglo-Irish bondholders, as it will to the tune of €1.25 billion later this month, it is highly likely they are paying some of these vulture funds, who are profiteering massively after buying the debt for a reduced price in line with the downgrading of Anglo-Irish debt, which was given junk status in November 2010. Some are believed to have been bought for 55 cent to the euro.
That means that on the Anglo investment made by these funds, they’ll nearly double their investment. All while the Irish taxpayer pays back in full. Is it possible to imagine something more unfair?