The Contrarian's Take: Why PDVSA Might Not Default

On Wall Street, the consensus is hardening: PDVSA will default in 2016. But what if they're underestimating our willingness to just pawn everything and pay?

Probably the most startling moment from that AS/COA panel regarding Venezuela’s dance with the D-word came from the guy who was, by the longest of shots, most bullish on PDVSA paying its debts this year. The stylish Diego Ferro – who speaks for Greylock Capital, a vulture fund no less – said it loud and clear: “the willingness to pay that, they [Maduro & Co.] have shown, is just surreal, suicidal, crazy, you can define it how you want.”

Normal countries default and restructure long before they reach the extremes of economic chaos we’re plumbing. But radical anti-imperialist Venezuela continues to pay Wall Street like clockwork. What gives?

Why is Venezuela bleeding itself for Wall Street?

The argument for continuing to pay is rather simple: if PDVSA can’t afford to make its next big round of payments (some $4Bn in principal and interest due in the fourth quarter of 2016), all hell will break loose. A disorderly default would follow, courtesy of bonds that are awkward to renegotiate because they have no Collective Action Clauses (CACs).

That would mean something like an Argentine scenario: vulture funds circling over the nation’s finances; PDVSA asset seizures all around the world; and locked international credit markets, not only for the oil behemoth and the Sovereign, but most likely for every single company in Venezuela. But it would be worse than Argentina, because PDVSA has many more assets abroad for creditors to seize than Argentina ever did, and Venezuela as a country wouldn’t last six months with PDVSA locked out of international financial flows, let alone 15 years, like Argentina just did.

That Venezuela can’t begin to consider a PDVSA default makes last month’s repayment of VENZ 16s all the more confusing.

Some market participants reflected on this in early February: in the grand scheme of things, a sovereign default is likely much less traumatic than a PDVSA default. So why would Maduro be willing to pay a sovereign bond that does have a Collective Action Clause, scraping the country’s gold pot as hard as ever when the country is already in a humanitarian crisis and according to some, facing a Balance of Payments crisis and requiring IMF help, when that effort would only deplete the assets it needs to pay the bonds that really matter, the PDVSA 16/17n double whammy?

Taking ‘creative financing’ to a whole new level

Well, turns out Maduro had an ace (or perhaps a full poker?) under his sleeve. Like a deadbeat forced to pawn the family’s last set of bedsheets to pay his debts, the Government has been scrambling for money in some unlikely places. Starting the settlement of old ICSID arbitration disputes arising from the ¡Exprópiese! era.

Last week, Venezuela cut a multi-billion dollar deal with maletín-based mining company Gold Reserve that magically turned an imminent liability into a short-term liquidity boost. BCV’s Merentes put forward a half-baked explanation of the arrangement: Miraflores is looking to ask Wall Street for a $5Bn loan backed by future gold sales, kind of like we did with oil to the Chinese. In effect, we re-pawned a mine whose de-pawning had gotten us sued in the first place, and turned a past-due bill into a payday. Neat!

Nelson also hinted that the government is going to pursue cutting imports at Greece-style austerity rates, reducing them by 40% for the second year in a row. It’s very hard to envision the extent of such a draconian measure, yet the social outcome is quickly showing our society’s ugliest face. It may be that Pérez Abad calculates that, post default, you’d be forced into still deeper import cuts, because if PDVSA can’t transact the country can’t transact. That may even be right, as far as it goes. Still, try to explain these subtleties to the pueblo arrecho.

Oil Czar Eulogio Del Pino reiterated that PDVSA is seeking to re-profile its short-term bonds, even going as far as using the word “restructuring”. It was a somewhat alarming choice of words, given that that’s one of the definitions of a Credit Event, according to ISDA, the referee of the credit derivatives markets. Hope they have some good lawyers on that – not that I need to worry, this government may not have the money to import immunoglobulin for Zika patients, but they’re never stingy when it comes to their New York lawyers.

And to sum up the government’s toolkit of money-raising initiatives: a last resort that’s becoming a recurring one. The ever-present possibility of another round of Chinese financing, perhaps accompanied by a relaxation on the terms of the cash-for-oil agreement as some market sources suggest.

Thinking the Unthinkable: What if we don’t default

Is this responsible fiscal management? A million miles from it. The republic is negotiating under extreme duress, and its counterparts know it. None of the deals being cut would withstand even a cursory salvaguarda investigation: the conditions now being accepted in return for emergency financial help would scandalize your local neighborhood loan shark.

In the not-so-long term these chickens will come home to roost: previous and current borrowing binges inevitably come due. If oil prices rise strongly again, maybe we get away with it – sort of. If they don’t, a llorar pa’l valle.

The High Government’s calculus is clear: in the short-run, screwing over foreign creditors is an existential threat. The now everyday calamities like critical food and medicine shortages are the clearest demonstrations of the stomach-churning social costs being paid to keep this show on the road.

Nevertheless, the measures aimed at securing external funding can, and some speculate, will ensure PDVSA stays on track with its financial commitments of 2016 and avoids a credit event. They need to keep the ability to transact, because they need a minimum of cash in their accounts. They know liquidity kills you quick, but solvency it’s just a matter of continuously kicking the can.

BofA’s Francisco Rodriguez broke the Street’s consensus and now expects the state oil company to muddle through its commitments of this year. It wouldn’t be the first time he’s bucked the consensus and been proved right.

Willingness, then, is not going to be a problem. Ability might still be. At current oil prices, the country is facing a $25-30 billion financing shortfall for the year.

That’s a big number. Maybe too big.

Is it bigger than their irresponsibility? We’ll find out.


Daniel Urdaneta

Russian-Venezuelan. A Santiaguino who left his heart in Caracas, Daniel is currently rehabbing from his addiction to High Beta and is pursuing a masters' degree in economics at Universidad Católica de Chile. Views are his own.