Venezuela Could Default Tomorrow

FT notes:

Investors worried that Venezuela might fail to repay a $1.5bn bond coming due on Friday have been reassured by the sudden appearance of tonnes of Venezuelan gold worth almost that amount in Switzerland...

There are good reasons for the government of President Nicolás Maduro to avoid defaulting on Venezuela’s debts, and not only because they risk losing their jobs and their liberty in the chaos that would follow.

Were it to default, Venezuela, like its regional neighbour Argentina, would be likely to find itself shut out of international capital markets, possibly for years. It might also, like fellow oil producer Iran, be denied access to the international banking system...

But there are reasons to think Caracas might not pay Friday’s bond after all. 

The first is that default seems inevitable, if not on Friday then later this year.

Siobhan Morden of Nomura estimates that, after the Swiss shipment and taking account of recent price rises, Venezuela is left with gold worth about $11.3bn. According to the central bank it also has foreign exchange reserves of $14.6bn (after a withdrawal of $472m last week, also seen by analysts as preparation for Friday’s payment).

But Friday’s is not the only payment coming up. Taken together, the government, state-owned oil company PdVSA, and its affiliates, face repayments this year of $10.5bn. The crunch months are October and November...

On top of that, Ms Morden says, Venezuela must find $35bn to pay for imports and $12bn to cover capital outflows, out of oil revenues of just $20bn.

While the price of the bond maturing on Friday suggests most (though not all) investors are convinced it will be paid, the price of credit default swaps, a type of bond insurance, puts the likelihood of default in the next 12 months at 69 per cent, according to Bloomberg.

The other reason to think default might happen sooner rather than later lies in recent actions by Caracas that suggest it is preparing for the consequences...

One is the creation this month of a state-owned company called Camimpeg, whose name is an acronym for Military Limited Company for the Mineral, Oil and Gas Industries. This company, says Mr Dallen, would allow the military to take over not only the licences for mineral production held by companies such as PdVSA, but also their assets. If it did so, such companies would become valueless overnight, leaving their bondholders with claims on nothing.

PdVSA and its subsidiaries owe about half of the $70bn in outstanding Venezuelan bonds, with the rest owed by the state.

The other development concerns the collapse in 2014 of Portuguese bank Espírito Santo, which formerly processed payments for PdVSA. Since then, PdVSA has switched its business to Citic Bank of China.

“How would the Chinese react if there was a western order to seize Venezuelan accounts?” asks [Russ Dallen of Latinvest, a Venezuelan bond specialist]. “Would they protect their client or play by western rules? It would be a real test.”

China itself is a big creditor of Venezuela, having lent it more than $50bn in recent years. It is being repaid in Venezuelan oil, a currency that has fallen sharply in value.

Even the Swiss gold is no guarantee of payment. The agreement with western banks that led to the shipment was made at the end of last year, when Mr Maduro may still have regarded paying bondholders — and thereby demonstrating economic and financial responsibility — as a vote-winner.

If so, the government’s defeat in December’s parliamentary elections may have disabused him. If default is inevitable, he now may be thinking, why throw $1.5bn away on Friday?

The hope for bondholders is that Mr Maduro may not always make rational decisions.

“The question is,” says Mr Dallen, “is it going to be a Thelma & Louise ending, where they drive off the cliff knowingly and deliberately, or will they just drive off the cliff? Their inability to change course, despite the obvious danger, is stunning.”