When Hurricane Maria hit Puerto Rico last September, it brought more tragedy to an island that just months earlier had defaulted on $74 billion in debt—one of the biggest defaults in history. The island, where almost half of the residents live at the poverty level, was without power for months.
These draconian circumstances led many creditors to sell out before the end of 2017, when prices fell below 25 cents on the dollar for the most widely traded bonds. That’s when other investors stepped up to the plate, among them Greylock Capital Management, a $1.2 billion hedge fund that invests primarily in distressed emerging market debt.
Greylock founder and CEO Hans Humes has forged a career as a kind of sovereign debt diplomat, following a childhood lived abroad, from Morocco to Mexico. He landed at Manufacturers Hanover in the 1980s, where he worked on Latin American debt restructurings before starting his fund in 1997. Over the past 30 years, Humes has been involved in dozens of sovereign debt restructurings, often serving as the bridge between hedge fund creditors and the countries that have borrowed too much and can’t pay them.
Worth spoke to Humes in late May, shortly after he had landed at JFK following meetings in Paris regarding the debt restructurings of troubled Venezuela, which is subject to U.S. sanctions. Closer to home, he has been monitoring the situation in Puerto Rico. Last year, Puerto Rico filed for a type of bankruptcy under the Puerto Rico Oversight, Management and Economic Stability Act (PROMESA), passed by Congress in 2016, which put its fiscal affairs under the control of a Washington-chosen oversight board, to create a process for restructuring its debt.
This year, the bond prices have almost doubled, based in part on new economic projections by the government that show Puerto Rico having $6 billion in surplus cash through 2023, compared with estimates of $4.5 billion before the hurricane—the second upward change since January. These rosy projections are based on about $70 billion in federal funds and insurance money that the government estimates will lead Puerto Rico to grow by 7.3 percent next year.
Q: Hedge funds were big creditors to Puerto Rico long before it finally was able to file for bankruptcy in 2017. How long have you been involved?
A: We were trying to coordinate discussions among the various creditors on an ad hoc committee in 2014, but that fell apart. Then after the hurricane last year prices sank, so it made sense to add to our position.
You’ve been involved in negotiations over sovereign debt crises for three decades, including the high-profile cases of Argentina and Greece. How does the situation in Puerto Rico differ from other ones that you’ve been involved with?
Puerto Rico is in a unique position. It’s not a sovereign, but it’s not a municipality, it’s not a state. It’s a commonwealth of the U.S.
Unlike U.S. states and municipalities, Puerto Rico couldn’t file for bankruptcy protection.
That’s right. So they got locked into having to commit to paying their creditors regardless of what happened.
Investors thought it was a sure thing—at least until Congress changed the rules in 2016 to allow for a type of bankruptcy procedure.
So they borrowed too much, and now they’ve put together a process to deal with it. In a sovereign you don’t really have a process, it’s just a negotiation. Enforcement is very weak in the case of a sovereign.
What do you mean by process?
The negotiation and legal process set out by the PROMESA legislation, which is now playing out in federal district court. But as this process has several novel features, the path to implementation and enforcement remains somewhat unclear.
Still, Puerto Rico bonds have had a huge recovery this year—almost doubling since last year’s downturn. That seems to be driven by the latest projections of Puerto Rico’s government, which is now saying the economy is going to be in better shape than they thought before the hurricane. What is your view on that?
We are not sure that Puerto Rico is out of the woods. The run-up in prices has caught us a little bit by surprise. We have some questions of how sustainable these projections are, given the damage of the hurricane.
It seems to defy logic. Why is the government putting out these rosy scenarios?
Anytime you’ve got a natural disaster or some kind of shock like that, especially with that kind of damage, you’re going to get a bump in economic activity. There’s no question that there’s going to be an uptick in economic numbers, but let’s see what the follow through is.
It doesn’t seem like a good negotiating posture. Am I missing something?
It may be politically expedient to be optimistic. But I’m surprised there wasn’t more of an organized effort by Puerto Rico and its advisors to put the case out that they couldn’t pay this level of debt. On the other hand, if they can resuscitate market appetite for Puerto Rico, they can float the boat a little longer.
That sounds like kicking the can down the road. Meanwhile, there are reports Puerto Rico is not even ready for the next hurricane season. There still places on the island that don’t have electricity. That seems to indicate that Puerto Rico really is not in a position to be paying back the creditors. Would you agree?
Yes. I was down there a month and a half ago. A lot of people who have gone down there have come back saying that they felt that the economy is pretty vibrant, but it didn’t look that way to me. What I saw was quite a few of the hotels and resorts were still being repaired. Quite a few of the stores are still closed. It’s unclear to us there will be enough economic activity to sustain aggressive debt repayments.
For years, the creditors have been pushing austerity measures, forcing Puerto Rico to close schools and hospitals. And it didn’t invest in the electricity grid, which still isn’t working to full capacity. Now the government says it wants to institute more austerity measures in order to pay down the debt. Hasn’t that contributed to the current problem?
I’m not a big fan of austerity, especially when it’s applied to education as well as maintaining infrastructure. The austerity measures meant that Puerto Rico was that much weaker when the hurricane did hit.
Following the hurricane, a number of activist groups were calling for the debt to be canceled. What’s your view on that?
Canceling the debt is just not pragmatic. It would be much more constructive to say, “Listen, this debt load is untenable. We can’t work with it. We need get it down to a manageable amount and these are the ways we could see doing it.”
Who makes the final decision as to what gets paid?
The court will receive a plan from the government, get input from creditors and then decide whether or not the restructured terms comply with the fiscal plan.
Given the huge appreciation of the general obligation bonds, which are now trading at 43 to 44 cents on the dollar, do you have a target price?
We’ve been a bit surprised by the recovery, so anticipating a peak price in the secondary market is difficult.
We’d like to think that Puerto Rico is not going to be an unmitigated disaster forever, right? Is there hope for that?
They are part of the U.S., so they’re not going to be left stranded out there.
