In the 1970s, in the peak of that decade's oil rush, many of the world's commercial banks were flush with deposits from newly-wealthy petroleum magnates. With cash to spare, banks indulged in heavy lending to the governments of many of the world's less-developed countries (LDCs).
However, prices of oil and other commodities plunged in the early 1980s, and the LDCs found themselves strapped for cash and began to borrow even more. As the spiral continued, many countries found it difficult or impossible to service their debts, and the banks refused to make additional loans. In desperation, Mexico and other countries soon declared that they would no longer make any interest payments to the banks. A full-blown international debt crisis erupted.
With so many banks left holding a portfolio of defaulted loans, institutions created several ingenious ways of making the most of a bad situation. These included implementing such strategies as debt buybacks, swapping loans into "exit bonds," converting loans into local currency for investments in local businesses, and exchanging the defaulted commercial bank loans for a new type of bond known as Brady Bonds.
Brady Bonds are named after former U.S. Treasury Secretary Nicholas Brady, who, along with the International Monetary Fund and the World Bank, led the debt-reduction plan for LDCs. Their idea was to restructure the debts of an LDC, allowing that country to achieve economic growth and make interest payments, by converting the defaulted loans into a bond collateralized by U.S. zero coupon bonds to ensure payment of the principal.
Most Brady Bonds are denominated in US dollars, but there are also bonds denominated in the currencies of several other countries. They are coupon-bearing bonds with fixed, step or floating rate (or some combination of each), having maturities of 10 to 30 years. Brady Bonds are issued as either par or discount bonds, and have a multitude of other options attached (such as warrants connected to raw products in the native country).