3 Venezuela Experts: Debt Risk & Dollar Adoption
By Dimitra DeFotis
The head of Venezuela’s state-controlled oil company, Petróleos de Venezuela or Pdvsa, is reportedly out of a job at the company overseeing the largest proven oil reserves in the world.
For bond investors, the timing of a management changes is bad with oil prices slipping below $50 and Venezuela’s April 12 amortization payment of $2 billion due, writes Nomura Securities‘ Siobhan Morden, head of Latin America fixed-income strategy. She recommends reducing risk, writing:
“We continue with our core investment strategy of maximizing carry and minimizing downside price risk on the objective to capture high current yield but hedging against higher default risk on the advanced phase of cashflow stress. … We do not expect a hard default this year; however we cannot ignore the mature phase of cashflow stress that may risk an accidental default or the risk of higher U.S. dollar liabilities … against few potential sources of financing. This merits a cautious underlying bias targeting credit neutral and cash neutral curve flattener trades. … the 2Y-4Y tenors are the most vulnerable to default risk … we recommend defensive relative value switches to maximize carry and minimize downside price risk…”
- Venezuela’s new 500 and 5000-Bolivar notes issued as inflation rises.
- Agence France-Presse/Getty Images
Eurasia Group Analyst Risa Grais-Targow thinks the reported departure of Pdvsa President Eulogio del Pino’s reported does not signal risk for Venezuela’s April debt payments:
The departure …”bodes poorly for the company, given del Pino’s more pragmatic stance and close relationships with joint venture partners that are key to boosting [oil] output. While del Pino’s apparent replacement Nelson Martinez is closer to President Nicolas Maduro, Martinez will struggle to improve PDVSA’s outlook amid competing demands for scarce resources and severe political constraints. Del Pino’s departure is unlikely to shift the government’s near-term debt service commitment or affect its April payments, but it does remove a strong advocate for avoiding default should that strategy be revisited … the government will likely make its April payments and continue to mobilize all available resources to avoid a default this year, with the main risk to debt service not willingness, but capacity. The latter is becoming more difficult given diminishing assets that can be made liquid. Assuming an average oil price of $40 per barrel for Venezuela’s basket, the government will face a financing gap of $12.6 billion this year … [that] will likely require a combination of international reserves drawdown (currently $10.4 billion according to the central bank), creative financing mechanisms (like the rumored repurchase agreement with Nomura), and bilateral support to survive the year (Russia seems to be a more willing lender than China).”
Steve H. Hanke, a currency expert and professor at Johns Hopkins University, just published “On Venezuela’s Tragic Meltdown,” which is his testimony before a U.S. House foreign affairs sub-committee this week. He recommends against direct U.S. meddling in Venezuela’s affairs, but instead says U.S. leaders can help stop Venezuela’s high inflation through two mechanisms: installation of a currency board system in which “its local currency becomes a clone of a reliable anchor currency … or abandon its local currency and adopt a reliable foreign currency (read: it can “dollarize”).” He writes:
Venezuela’s economy is collapsing as “the result of years of socialism, incompetence, and corruption, among other things. An important element that mirrors the economy’s collapse is Venezuela’s currency, the bolivar. It is not trustworthy. Venezuela’s exchange rate regime provides no discipline. It only produces instability and poverty. Currently, Venezuela is experiencing one of the highest inflation rates in the world: 150% per year …”
He says that Argentina’s convertibility system failed because it allowed for both monetary and exchange rate policies. He says a recent survey in Venezuela showed 59% of respondents supported currency boards and 62% supported dollarization. He says that in Panama, Ecuador, and El Salvador, which are officially “dollarized,” and in Peru which is semi-officially dollarized, “real GDP growth has been more stable and generally superior to growth in the countries that issue their own domestic currencies.”
Hanke recommended two books in his testimony:
- On Venezuela’s economic “dysfunction” leading up to Hugo Chavez’ presidency: “Paper Tigers and Minotaurs: The Politics of Venezuela’s Economic Reforms,” by Moises Naim, 1993.
- On the “bizarre state” of economic affairs in Venezuela, “Crude Nation: How Oil Riches Ruined Venezuela,” by Raul Gallegos, 2016)
Venezuela government bonds were among the holdings in the iShares JPMorgan USD Emerging Markets Bond ETF (EMB) and bonds in Pdvsa were among the holdings in the VanEck Vectors Emerging Markets High Yield Bond ETF (HYEM) as of late February, according to Morningstar. There are no Venezuelan equities in the iShares Latin America 40 ETF (ILF).
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