Memewatch, legal-rights edition

By Felix Salmon
June 3, 2009

David Reilly has come out with one of the purest forms yet of the “legal rights” meme:

Bondholders are told to give up legal rights, and cash, as part of a government-mandated tradeoff that favors a politically connected special-interest group.

The big threat is that this policy will extend to all bonds, including Treasury and municipal debt, not just corporate obligations…

The president, Einhorn said, had introduced a “quixotic idea” into credit markets: “that creditor recoveries in troubled situations can be determined by an arbitrary sense of shared sacrifice rather than legal agreements and long- established prior practice.” …

That theme was echoed at the Sohn conference by Paul Singer, head of Elliot Associates LP, one of the biggest and most successful hedge-fund managers.

Singer’s funds have used the courts to enforce their rights as creditors. He spoke of his concern the law will be circumvented.

Yet even here, in an 800-word column devoted to the subject, Reilly can’t actually name a single “legal right” which GM bondholders have been told they have to “give up” or which has been “circumvented”. Instead, he’s reduced to a vague sense of “that’s not fair”:

In the run-up to GM’s Monday bankruptcy filing, bondholders were told they would do far worse in a government-organized and -financed restructuring than would a health-care trust fund for GM’s unionized retirees. That was the case even though bondholders were owed $27 billion versus $20 billion for the trust, and even though bondholders’ claims were legally equivalent to those of the trust…

The deal certainly didn’t represent, as Obama said during a Monday press conference, an “equitable outcome” for bondholders.

Reilly neglects to mention, here, that the bondholders are going to get a huge chunk of the “old GM” — the assets which will remain in Chapter 11 after the “new GM” emerges from it. The UAW isn’t.

But more to the point, an unsecured creditor has no “legal right” to get exactly the same outcome as any other creditor with whom she is pari passu. The creditor does have the legal right to kvetch to a judge about fairness, that’s about it. And if the bondholders have a better idea of what’s fair, they’re more than welcome to provide tens of billions of dollars in debtor-in-possession financing in order to make that happen. But of course they’re not willing to put in so much as a nickel, which means that it’s not up to them, and the entity providing the financing — in this case, the US Treasury — gets to call the shots.

As for Paul Singer, I’m curiously untouched by his crocodile tears over bondholder rights. Yes, he regularly goes to court to enforce those rights — that’s how he makes high returns for his hedge fund. If there were nothing to complain about, he’d be out of a job. And, of course, he’s very politically active on the Republican side of the aisle: it’s unlikely he’ll ever have anything particularly nice to say about the Obama administration.

So let’s find a legal expert to come out and say that certain specific rights have been overridden. Or, if we can’t, let’s drop this meme altogether.

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