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REFILE-ANALYSIS -Too much of a good thing? Argentina's growth creates bond dilemma

dilemma@ (Adds Joaquin Olivera first name and title on first reference in paragraph 8)

BUENOS AIRES, Oct 26 (Reuters) - Investors who bought up Argentine warrants linked to economic growth, hoping to profit from a long-awaited recovery, should not count their winnings just yet.

President Mauricio Macri's debt-laden government has a tough choice to make on how the payout from the bonds is calculated, economists say, and could potentially slash it to practically zero.

The warrants, issued as part of debt exchanges in 2005 and 2010 following Argentina's massive default in 2001, pay out in the event annual gross domestic product (GDP) growth exceeds 3 percent.

South America's second-largest economy racked up 2.4 percent growth in the first eight months of this year, official data showed on Tuesday, potentially putting it on track to break through the payout threshold for the first time in six years.

But even if that happens, a big payout is not assured.

The amount paid will be determined by the difference between actual 2017 economic output and a pre-set base level.

Macri's government has yet to decide which year to use as the base scenario. The market expects that the base year will be either 2004 or 2012.

If 2012 is used as a base, the government would pay between $2 billion and $3 billion next year, and "almost nothing" if it chooses 2004, said Joaquin Olivera, head of research at Balanz Capital in Buenos Aires.

"The return depends on a political decision, so it is very difficult to make a model to estimate," Olivera said.

Investors in the peso-denominated instrument would see a whopping 35 percent return in dollar terms if the payout is triggered and 2012 is the base year, Olivera said. But kicking the can down the road might be tempting for a government expecting a 28 percent increase in debt payments next year to 285 billion pesos ($16 billion).

Macri is trying to close the fiscal gap but a devaluing peso has increased interest payments by making dollar- and euro-denominated debt more expensive to service.

NO DECISION YET

Overall, $45 billion worth of the various warrants are outstanding, with $13.74 billion in government payments left, according to investment bank BTG Pactual. Total payments are limited to 48 cents on the dollar for each instrument, intended to compensate investors for the haircuts they accepted in the debt exchanges.

The dilemma arose when the previous government changed how it calculates GDP. The warrants' prospectus is ambiguous about what should happen in the event of such a change, but the government has not yet been forced to decide because the economy has not grown enough to trigger a payment since then.

Choosing a base year that results in a higher payment would prompt complaints from political opponents, while selecting a base year resulting in a lower payment could prompt litigation from bondholders, analysts say.

"It is something that we do not have to do until the second semester of next year in the event we grow in excess of 3 percent," Finance Minister Luis Caputo told reporters in Washington this month. "It's a decision that could even be taken in 2019."

Many investors are clearly expecting a payout and favorable base year decision.

The warrants, issued in dollars, pesos and euros, are set to grow for a third, fourth and fourth straight month, respectively, in October. The dollar-denominated warrants have surged 26.7 percent this year to $11.40, while the euro warrants are up 22 percent at 11.05 euros ($12.89).

GDP growth above 3 percent would lead to a 20 percent rally, while a favorable base year would cause further appreciation, BTG Pactual said in a September report.

Economists expect growth of 2.8 percent this year, according to a central bank survey. A Treasury Ministry official told Reuters the economy could grow between 2.8 and 3.1 percent.

BTG Pactual said whether or not the payout would be triggered was a "coin toss."

But with Argentina less than two years removed from settling a bitter legal dispute with hedge funds that refused to accept its debt restructuring, Macri's center-right government would likely be keen to avoid a possible lawsuit from bondholders, Olivera said.

"You might not need to pay anything for the coupons, but you are going to need to pay lawyers," Olivera said. "We already saw that." ($1 = 0.8572 euros) ($1 = 17.6500 Argentine pesos) (Additional reporting by Dion Rabouin in Washington, D.C.; Editing by Daniel Flynn and Rosalba O'Brien)