This page is updated frequently--bookmark it for easy reference.
NOTE: You may need to press reload on your browser for the most current version of this page.

Brady Bonds--Past, Present & Future From Bad Debts to Healthy Securities? The Theory and Financial Techniques of the Brady Plan

Introduction to Brady Bonds--Graicap Fixed Income Research Introduction to Brady Bonds--BradyNet Staff

Introduction to Brady Bonds

By BradyNet Staff

Background

As an aftermath of the 1973 oil shock, many commercial banks suddenly found themselves with sizable amounts of funds deposited by oil producers. In the rush to recycle that cash, many banks lent to the governments of less developed countries ("LDCs").

In the early 80's, when many commodity prices fell, the terms of trade swung drastically against many LDCs. As a consequence, they suffered from a shortage of funds which was gapped by additional borrowings, thereby compounding the problem. Furthermore, since much of the borrowing was done at floating interest rates, when rates began to rise, this furthered hindered the capacity of LDC borrowers to service their debt obligations.

In time, commercial banks refused to continue lending and in August 1982 Mexico declared a temporary moratorium on interest payments. Soon afterwards, as other developing nations followed suit, an international debt crisis erupted.

Many commercial banks were left with large amounts of defaulted syndicated loans. Those institutions were left in the uneasy situation of not being able to write off part of the value of those loans due to their large exposure to them and due to their limited capital base.

In 1983, a market for swapping loans was created. European and U.S. banks began to swap their defaulted loans and cash payments were also sometimes made. Closing these swaps deals often involved a number of counterparts. These transactions made economic sense in part due to U.S. accounting practices and to the inability of U.S. banks to write down their loans to their true economic value.

Starting in 1987, many banks began to set aside reserves against their LDC exposure and where then able to sell those loans at a discount. The cash market was born!

In order to find a solution to the debt crisis, many debt relief formulas were implemented:

Debt buybacks,
Swapping loans into exit bonds,
Conversion of loans into local currency for equity investment, including into newly privatized enterprises.
Exchanging loans for Brady Bonds

What they are

Brady Bonds are securities that have resulted from the exchange of commercial bank loans, sometimes defaulted loans, into new bonds.

The goal of that exchange is to reduce and restructure the debt of those countries that have reformed their economic policies to the point where they can achieve economic growth and make timely payments on their (now reduced) debt obligations.

Brady Bonds are named after former U.S. Treasury Secretary Nicholas Brady, the former U.S. Secretary of the Treasury, who led the debt-reduction plan for LDCs that eventually resulted in the bonds1 creation.

Collateral and Warrants

Many Brady bonds have their principal and two or three semi-annual interest payments, which roll over, collateralized by 30-year zero coupon bonds and by high quality assets. Should a Brady bond whose principal is collateralized default, investors can only collect the principal when the bonds mature.

Also some Bradies have embedded warrants whose value is often tied to the world price of raw products native to the debtor country.

Par bonds, some series of capitalization, interest reduction and exit bonds were issued with favorable cost of funds. Discount bonds, Debt Conversion Bonds and most FLIRBs where issued with coupons that often exceed those that the issuer would need to pa y on new debt. In view of this, some countries have began to retire the more expensive types of debt by purchasing them.

Alternatives under a Brady style exchange

In a Brady style exchange of bank debt for new bonds, banks are offered a menu of options under which to convert their commercial loans into Brady Bonds, such as:

Par bonds; bank debt can be exchanged at 100% of face value with below-market fixed interest rates. Principal is collateralized by 30 year US treasuries.

Discount bonds; under this option bank debt can be exchanged at a discount to face value and they pay a high floating rate, such as Libor plus 13/16. Principal is collateralized by 30 year US treasuries.

New-money bonds (NMB); these bonds often pay an interest rate of Libor plus 7/8. They are not collateralized.

Debt Conversion Bonds (DCB); for every dollar of new money invested in New Money Bonds, creditor banks were allowed to exchange existing loans for DCBs at a predetermined ratio. DCBs and NMBs usually carry the same terms.

Term

Par bonds and Discount bonds tend to have a 30-year bullet maturity, New Money Bonds often have 15 year maturity with amortizations that reduce average life to about 10 years.

Currency

Most Brady Bonds are denominated in US dollars. There are also Bradies denominated in Deutsche Marks, Canadian Dollars, Dutch Guilders, French Francs, Japanese Yen, Italian Lire, British Pounds, and Swiss Francs.

The information and opinions contained herein do not necessarily express the opinions of BradyNet, Inc. This report has been prepared solely for informational purposes and is not a solicitation of any transaction in the securities with which it deals or an offer to enter into any such transaction. Prices and/or other information in this report are subject to change without prior notice.

Please read our disclaimer.

General Correspondence: bradynet@bradynet.com Questions/Problems? support@bradynet.com

Brady Bonds--Past, Present & Future	From Bad Debts to Healthy Securities? The Theory and Financial Techniques of the Brady Plan
Introduction to Brady Bonds--Graicap Fixed Income Research	Introduction to Brady Bonds--BradyNet Staff