Sonntag, 1. Januar 2017

Buy The Dip: Venezuela, Mozambique and sovereign debt restructuring

October 31, 2016

Buy The Dip: Venezuela, Mozambique and sovereign debt restructuring

Christmas is still a few months away, but it is coming early for sovereign debt restructuring nerds, courtesy of Venezuela and Mozambique. But first up, my Halloween carving:

It's the Barclays Multiverse bond index, yield to worst, naturally.

Venezuela:

Venezuela's oil company PDVSA earlier this month finally managed to get its debt swap done, but only after threatening to default, and it still didn't get the bondholder participation up to anywhere close to the 50% minimum the company wanted. The swap's coercive nature means that S&P declared it a default, and it's an open question whether the debt relief will prove enough for Venezuela to stave off a broader government bankruptcy.

The deal saves PDVSA roughly $1bn this year and next, but it still has to make a $1bn bond repayment on Oct 28 and $1.1bn on an amortising bond on Nov 2, Exotix notes. The government itself has to pay $600m to a Canadian gold miner by Oct 31, in partial settlement over expropriated assets. And next year the repayments come thick and fast, as this excellent explainer by two of my colleagues highlights.

Basically, Venezuela ran out of road a while ago, has been bumping along on a dirt track for most of 2016, and is approaching a chasm. Its speed is now so great it probably has no way of avoiding going over the edge. So what happens now?

As I've written about before, Venezuela's debt stock is a tangled mess, and vulnerable to the kind of legal jujitsu that hedge funds subjected Argentina to. Here's an interesting "cryonics" solution offered by Lee Buchheit and Mitu Gulati that might be deployed in Venezuela, but Ricardo Hausmann - an eminent Venezuelan economist who coined the term "original sin" for emerging markets borrowing in dollars - has recently offered this rough but interesting cookbook.

PDVSA may nonetheless be entitled to bankruptcy protection both in Venezuela and in the US. In this event, PDVSA could obtain a court-mandated standstill order with respect to legal action against it until a restructuring agreement is reached, thereby avoiding a disorderly seizure of assets.

As an additional form of pressure to secure participation, PDVSA’s exclusive right to exploit Venezuela’s hydrocarbon reserves can be withdrawn or modified. (Interestingly, both of these possibilities are highlighted as “risk factors” in the offering documents for PDVSA’s bonds.)

Both PDVSA and the government can also use “exit consents”: changing some of the bonds’ terms – the pari passu clause used by Argentina holdouts, as well as other significant provisions – through agreement with a simple majority of PDVSA bondholders and two-thirds of holders of most government bonds.

These are some interesting suggestions, but unfortunately I think that all of them have some legal weaknesses. For example, judges have taken a dim view of aggressive exit consents like this, I'm not certain they'd be quick to recognise a Venezuelan court-ordered stand-still, and they'd almost certainly be unimpressed with drastic asset stripping like cancelling PDVSA's oil concession. I'd go into why I think there's hair on all these options, but I don't want to test your patience with my sov debt nerdiness.

Someone who sees a less drastic approach as the most viable option is Francisco Rodriguez, another well-known Venezuelan economist currently working at Torino Capital. Bloomberg has written a great piece on his standoff with erstwhile mentor Hausmann over Venezuela. Here's an excerpt of his take, which goes into some of the vulnerabilites:

We see several problems with the Hausmann-Walker approach. One is that the stripping of PDVSA’s monopoly Venezuelan oil by the government could end up being seen as an attempt to defraud bondholders from their legitimate rights. From a legal standpoint, bondholders could claim that PDVSA is an alter ego of the government and that the transfer of monopoly rights to another firm is an attempt to fraudulently convey the debtor’s assets to avoid paying its debts.

We are also concerned that the move could weaken the case that Venezuela is facing a genuine capacity to pay problem that merits the support of the international financial community. After all, debtors who genuinely can’t pay their debts don’t typically go around hiding their assets. From a political standpoint, we believe leaders on either side of the political spectrum are unlikely to warm to the idea of a PDVSA bankruptcy, particularly if it entails handing over power to US courts to decide how to divide the firm’s assets among its creditors.

Briefly, I'm worried it could get even messier than Hausmann and Rodriguez think. Restructuring debt is a bit like treating a serious ailment: The quicker you go to the doctor and get the right treatment, the easier it will be. But in sovereign debt restructuring terms, Venezuela looks like it is waiting for a massive cardiac arrest before turning up at the A&E. It doesn't look like a very healthy strategy.

Mozambique:

Things look moderately better in Mozambique, but only because the IMF is in practice forcing the country to restructure its debts in a hopefully reasonably orderly fashion.

Basically, Mozambique borrowed too much money, both on and off the books. And it's the latter that has proven fatal for its finances. The highlight was a state-guaranteed "tuna bond" (read this super FT piece by my colleagues Andrew England and Elaine Moore for more details), which was restructured into an explicitly government bond earlier this year. But there were two further state loans revealed later on, for a total of $1.4bn, which spurred the embarrassed IMF to freeze its Mozambique programme.

The Fund has now decided that the country's debts are unsustainable, so according to its (sometimes ignored, often pliable) rules it cannot resume aid until Mozambique restructures its debts. So last week the government admitted as much to creditors at a meeting in London. The full presentation is here. Here's what I wrote on the mess, and here is what the Mozambique "tuna bond" did in response. It's a rare technical formation chartists call "Fly Hitting Window".

On one hand the Mozambique situation is fairly conventional. Small developing country borrows too much, hits a sticky patch, and then reveals that things are actually even worse than thought. But as I'm fond of saying, every sovereign debt restructuring is like a snowflake, unique and beautiful in each its own way.

Firstly, most of Mozambique's external debt is not easily worked out, as only 17 per cent of it is made up of this bond and the previously-undisclosed loans. Secondly, working out the balance of power (and haircuts) between bondholders and lenders will be tricky. Thirdly, Mozambique wants things wrapped up by the end of the year, which seems ambitious. So Stuart Culverhouse at Exotix thinks there could be a fight brewing:

Our calculations suggest the targeted amount of debt relief may be as much as 40% over the whole debt. This would reduce the debt burden from our estimate of 92% of GDP this year, to 55%. However, we think the game theory dynamics of a restructuring could work to the advantage of a strong group of creditors. This might see the outcome converge to something like a 20% haircut, with gas warrants, a la Ukraine.

More broadly, I think the interesting thing here is how there seems the be a new smattering of debt crises in Africa. By my count, Morocco, Tunisia, Ghana, Kenya, and Mozambique are all currently in an IMF programme of some sort, and in the near future the Fund will also have to deal with Egypt, Angola, Zambia and the Ivory Coast. Hell, it's not impossible that even Nigeria might need some help at some point.

The problem is that many African countries now have private sector creditors, after a bond borrowing spree in recent years. These investors can and will put up a fight, or if they don't have the stomach for it, sell their bonds to hedge funds that do this for a living. That could lead to some nasty surprises for countries more used to the orderliness of a Paris Club restructuring deal with western governments.

On a related note, check out the latest CIGI paper on Argentina's debt restructuring, and analysing lessons for future work-outs. And naturally my four-part podcast series, detailed and downloadable in the links below:

The first episode dealt with HOW countries go bankrupt, looking at the concept of sovereign debt sustainability through the prism of Italy.
The second one looked at what happens when countries are forced to restructure their debt, exploring Argentina's tumultuous battle with its creditors.
The third one was on Greece, and some of the measures taken to improve the sovereign debt restructuring process in recent years.
For the last episode I wanted to end on a moderately positive note, so we metaphorically visited Jamaica to look at the turnaround underway there.

Chart of the day:

Inspired by this piece arguing that skinny ties are over, Gadfly's Michael Regan decided do bit of data journalism on the subject, asking the dapperest men in finance their tie widths. I PROMISE that he did ask me, I just missed the message until it was too late (for reference, I wasn't wearing a tie on Friday, but it was about 2.75 inches on Thursday).