Retail inflation prepared for the second round

The international stage has been set for Argentine bonds to show a good performance. Dollar inflow will help a lot, keeping price of the American currency at low levels and increasing Central Bank's reserves to $41 billions this week. Emerging countries' bonds have climbed higher than Argentina's. Those nations post the lowest country-risk of their history, something not happening in Argentina because Argentine Statistics and Census Institute (INDEC, in its Spanish acronym) has blocked rise of domestic papers. Despite these obstacles, Argentine bonds, coupons and stocks may have a good performance this week, since the entire globe is in a good mood.

The everlasting paradox of the productive model recurs: dollar inflow is complicating government's desire to keep a high exchange rate. Moreover, this week, two pieces of information closely linked to this situation will be announced: issue of an Argentine peso-denominated bond this Thursday and retail inflation which, repeating modus operandi since January in INDEC, will rise between 0.4 per cent and 0.6 per cent.

Wave of incoming foreign currencies is in tune with what's going on in all emerging markets, particularly Brazil and Turkey. However, in Argentina, there are some domestic factors unusually alarming government, which adopts measures according to them. They may work in the short term, but government has very little leeway to keep dollar at high levels. A bike is moving at full speed in foreign lands: funds gain dollars at LIBO rate (5.4 per cent annual) from investment banks, take 1-year positions in Argentine pesos by buying LEBAC (Argentine Central Bank's Bills of Exchange), receiving 10.30 per cent. In order to be protected, they buy one-year future dollar (Non Deliverable Forward), paying a 2-per cent implicit rate. In this way, they reap handsome profits, without using their own resources.

According to this, we should take into account the following data:

Retail inflation will be announced tomorrow, probably hitting 0.6 per cent. According to INDEC, real data would have settled at 1.7 per cent without official intervention, due to hike of food, vegetables and meat. The executive order providing changes in INDEC has not been issued yet. Thus, official philosophy won't change in the short term either.

This Thursday, bids will be called to issue the first bond in Argentine pesos for $500 millions. It will have a five-year term, though it may be extended to seven. Rate would hover around 12 per cent, depending on international markets' situation.

However, this last point is in keeping with dollar avalanche. Argentine Central Bank (BCRA, in its Spanish acronym) has asked Argentine Securities Commission to delay authorization to place Negotiable Obligations. The thing is that, every time one of them is issued, foreign dollars rain down immediately, further pressuring exchange rate and, as a consequence, Central Bank as well in its attempt to keep parity. Other $2 billions are expected for June.

Investors are so excited to bet on a stronger peso (falling dollar) that the so-called spot settlement (equivalent to traded dollar avoiding exchange controls and making it appear as a simultaneous bond sale) to take funds to foreign lands is cheaper than the official one. This means that, as opposed to other periods, not only is dollar withdrawal from Argentina for free, but also cheaper than resorting to traditional market.

However, it's worth noting foreign enthusiasm for LEBAC, which, all in all, reduces BCRA power to sterilize pesos issued when buying dollars. Foreign investors are highly interested in this paper. In this way, instead of withdrawing current pesos, LEBAC only attracts more dollars, thus increasing cash going around market. At present, BCRA debt yields around 500 basis points more than US Treasury papers, much more than public papers. More than 20 per cent of 2007 BCRA issues are probably in the hands of foreign investors. Rules do not allow this, but, as usual, there are cracks to avoid them. Foreign funds trade with Argentine banks which hold LEBAC and NOBAC (Central Bank's Bills of Exchange and Securities) as if they were an investment of their own. However, the truth is that those are securities in safe keeping. Not even dollar is volatile, which guarantees exit price to foreigners. Financial party is in its prime.