Lebanese banks shed bonds in ‘prisoner’s dilemma’


Bonds issued by Lebanon have taken a beating this week, as local banks unsure of repayment have offloaded them to foreign investors happy to take high risks for high returns.

Beirut’s $1.2bn eurobond that matures in March, and which is seen as a key test of whether the government will be able to service its huge debts, has dropped about 5 cents since Tuesday to 77 cents on the dollar. Analysts said the sell-off reflected local banks cashing out at knockdown prices in a scramble for foreign currency.

“The banks are obviously struggling,” said Luis Costa, head of Ceemea strategy at Citibank. “There is a lack of dollars in the banking sector and they’re very hungry for dollar liquidity.”

Wracked by popular protests over corruption and government mismanagement, Lebanon is one of the world’s most indebted countries, with a debt burden of some $88bn, or about 160 per cent of gross domestic product. It is struggling with simultaneous currency, fiscal, and economic crises, which have cut the street value of the Lebanese pound by at least 30 per cent against the official rate and pushed thousands into joblessness.

Line chart of cents against the dollar showing Lebanon's March-dated eurobond drops to record lows

Analysts said the banks’ dumping of the March 2020 eurobond was worrying, as until now the country’s financial stability has tended to hinge on co-operation between the government and local lenders, which buy up debt in both local and foreign currencies.

The theory was that a higher proportion of local rather than foreign debtholders would help in negotiating any restructuring, as neither side wanted the other to collapse. Now, the fear is that overseas bondholders will force tougher terms on the sovereign if it opts to restructure its debts, as has been the case in other emerging economies that have borrowed more than they can handle.

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Dan Azzi, a retired bank chairman, likened the local banks’ sell-off to the “prisoner’s dilemma” — a game theory paradox in which two individuals trying to protect themselves at the expense of each other end up leaving both worse off overall. By leaving their positions the local banks have “increased the probability of default for sure,” Mr Azzi argued.

According to calculations by Capital Economics, the most reliable indicator of ultimate recoveries from a sovereign default is the level of public debt compared with the size of the economy, around the time of a crisis. As such, the consultancy estimates that investors should prepare for haircuts of 60 per cent or 70 per cent.

Lebanon’s newly appointed cabinet is partially staffed by technocrats selected by political parties dominated by Iran-backed Hizbollah.

It faces a tough decision over whether to use limited foreign reserves to pay creditors and avoid default, or prioritise making the hard currency available to importers. Economists estimate Lebanon will need $5bn this year to cover its basic needs.



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