Bloomberg News recently came out with this article titled “Venezuela Refuses to Default. Few People Seem to Understand Why”.

The question is fair:

Why does a country that’s so starved for cash keep honoring its foreign debts? In other words, how does it justify shelling out precious hard currency to wealthy bondholders in New York when it can’t pay for basic food and medicine imports desperately needed by millions of impoverished citizens?

As Ricardo Hausmann noted, this moral choice is odd, to say the least. And it’s even odder when you think that the guys that paid over $36 billion to Wall Street in the last 20 months are the self-proclaimed socialists that run the country.

According to Bloomberg, few people understand the government’s choices. But working as economist in the fixed income market, I think that’s simply not true.

Despite the apparent oddity, the reason for paying debt above anything else, as explained by market players across the spectrum–Hedge Funds, most Swiss/European Private Banks, Dealers, and local investors, and several of the guys on Daniel’s tenedores categories–is clear:

The government conceptualizes default as a long-term “game over”

The main arguments go as follows, and partly related to the theories mentioned in the Bloomberg piece:

  1. Venny/PDVSA officials deem the overseas assets seizure risk as too high to consider voluntary default.
  2. High-ranked government officials (Maduristas or not) see themselves in power for several years more, and the risk of losing access to international capital markets in the long-term is a ni de vaina kind of choice.

Let’s dig las patas en el barro to explain each argument.

First, you can argue like Francesca Odell did in the Bloomberg article that PDVSA’s “structured sales contracts makes it difficult for them to be interrupted by a legal challenge”. In criollo and more detail, that means that PDVSA’s oil sales are designed so that the oil shipment is property of the buyer as soon as it reaches the ship in Venezuelan ports.

By design, bondholders will have a tough time seizing oil shipments in case of a default. What they will actually be able to seize the ship, provided it’s PDVSA’s property. But, if that is true, why is the self-proclaimed socialist government still paying Wall Street?

Well, because the lawyers paid by Wall St. (especially “vulture-like” hedge funds) are already preparing like sharks smelling blood for the day the government decides to cut its veins. And PDVSA has a lot more of strategic overseas assets than just ships. I’ve talked to these lawyers and the government most certainly has as well. They’re scary.

Second, government boliburgueses think they cannot afford to lose access to international capital markets in the long run, which will reopen if oil prices recover in time. They want every potential source of dollars available for 2019 because they think they will stay in power.

Just imagine what Maduro imagines (supuesto negado):

After avoiding a Recall Referendum in 2016, and with oil prices above $65 p/b for most of 2017, 2018 and 2019, a voluntary default in 2016 could tear down my chances of financing a populist binge before the next presidential elections. Chinese loans will not be enough.

I think in the end, the government’s willingness to pay is driven by this end-game. That’s why if we see a default in Venny/PDVSA, it will probably be an ability to pay issue, not a willingness to pay problem.

If such day comes, que Dios nos agarre confesados.

24 COMMENTS

  1. And how much of these bonds are in the hands of people from the regime? Isn’t part of the equation as well?

    • That was my thought as well. If there is immense profit to be made in holding these bonds and you know through your friends that they will not default, then there is no risk and high reward

    • It is too, but we have to make a relevant differentiation here. There’s a vast portion of the outstanding bonds – especially those that mature in the short-term – that were bought back by governmental institutions, such as PDVSA’s Pension Fund, Fonden, Banco de Venezuela, etc., being the first one the most important player. This has a strict liability management objective: they buy back the bonds at current prices (which are still very cheap in general), to avoid paying the full notional amount at the maturity of the bond, in order to save dollars. The obscure thing here is how they make the inter-institutional reckoning.

      The other (and much less important in terms of total owned bonds) is the group of government officials (individuals) that hold Venny or PDVSA bonds. These people often use Swiss Private Banks to make this kind of operations, but we don’t really know how much they own, or who exactly they are.

      Personally, I doubt that they have enough political leverage to force a decision to pay bonds, just for them to get paid. There are “more important” reasons for policymakers aligned with the “pay no matter what” view. But a certain degree of influence from these officials can undoubtedly be exercised over policymakers too. In my humble opinion, the reasons I explained in the article are the main and most important drivers.

      Standing from the government’s point of view, I would be more scared of hedge fund’s lawyers seeking to seize whatever asset or introducing harsh lawsuits against the Republic or PDVSA than these chavismo officials bondholders.

  2. These payments are based on risk analysis, who could really take me down of power if I don’t pay? Wall St or Hungry People?
    Chavismo knows they control the people, either by force trough Colectivos or by business through bachaqueros.

    The only group who can really challenge the staus quo are the military, that’s the other group added to wall st who gets paid on time.

  3. hmmm…Interesting… I always look at the “government is paying bondholders instead of importing food” reasoning and wonder why is it not “government is paying bondholders instead of importing and giving away food at ridiculously low prices compared to what these goods cost in the rest of the world” instead? These articles always seeking to put the blame on bondholders time after time after time. Although I do appreciate your attempt to clarify things.

    Also, it would be good if one day someone would at least have the decency to explain to people that the society in Venezuela is essentially bankrupt. Why? Well because at this stage most goods are imported (for reasons we all know) therefore the Govt. would never be able to control their price. They can try to burn all the cash they want to buy goods abroad and sell them internally at artificially low prices but they will never be able to control the price they pay for these goods. So…let’s go to the dream scenario: elimination of all price controls and the elimination of the capital controls. Surely the price of all goods and foreign currency will go through the roof. So where will the Venezuelans get the money to pay for these goods at the new adjusted and higher price? Where is the money going to come from? They won’t be able to afford them, therefore, they are bankrupt. Kaput.

    There will never be enough dollars to satisfy demand at artificially low prices. Eliminating price and currency controls is definitely the way to go but it will take a long time for Venezuelans to recover purchasing power and be able to afford goods and the real price. Politicians are not telling the truth, they just want to point to bondholders as the scapegoat. Truth is not paying bondholders won’t change the picture.

    • Así es… todo el mundo se echa las manos a la cabeza al ver rentabilidades de dos dígitos pero nadie se quiere acordar del riesgo asumido al invertir en un país que, como bien dice, está en bancarrota.

      • Rafael, I gladly take the risk…because it pays what I consider a good return for that risk. Much safer than buying Deutsche Bank bonds for example, or Spanish Govt. bonds (the former with derivatives exposure 20x the GDP of Germany and the latter with a public PF about to hit a brick wall) which are both trading with yields of low single digits.

        • I would be glad only when I reap the profits, not when I take the risk… I guess this is what you wanted to say anyway.

    • Good try in trying to justify the morality of your choice, but the reality is you make money from a country that make its people go hungry. That’s how it is. Is that the fault of the bondholders? No, no one said that. This article actually tries to explain why a rational expectation, that the government feeds the people instead of anything else, does not occur. Why this expectation exists naturally is linked with the fact that we all put the responsability, and blame, in the Gov. Not in the bondholders. All the other things you mentioned…do you really think many venezuelans don’t know? Even the most illiterate venezuelan know that, with this gov. or with a new one “lo que viene es joropo” (with the difference, that you don’t mention, that if control was taken down and corrective measures were taken one could expect at least to be hungry and work for a better economy in the mid-term, you know…hope, at least. No “pasarlo roncha” for literally nothing, like now. We can’t afford food NOW…). We, adult venezuelans, know we have been sacrificed. We can’t dream or have hope but for a better future for the young. We know that. Your comment striked me as very offensive as we DO know, how can we not? More than 70% venezuelans want a change not of gov, but of economic system (impossible without chavismo out, which we also know). Even if we didn’t know, that doesn’t change the fact that you make money from a gov. that make its people go hungry. It’s like you’re saying that as we’re fucked anyway, it’s okay for you to make money from this disaster. What?! Your responsability is linked with YOUR choice, not with things you can’t change or have anything to do with you. Deciding to make the people go hungry can’t be your choice. Trying to justify your choice by saying there are other, more important choices, that have to be taken by other parties is just ridiculous. I have never seen anyone trying to explain this madness faulting the bondholders, but many will criticize the morality of YOUR choice. I do. I for sure imagine you don’t care. But trying to justify it like this is rather unbelievable. Just say that you don’t care and that’s it. At least you won’t come as offensive to the people you actually give a fuck about. That’s better, trust me. “Kaput”.

      And yeah, sorry for not congratulating you for taking such a risk being we’re such a bankrupt country! Nojoda. ¡¡Pareciera que encima hay que dar las gracias!! Btw I perfectly can imagine a lot of people who don’t care if a country is in war, making its people go hungry, has a bloody dictatorship, etc. when buying profitable bonds. Not that I don’t care, but what I was amazed with and the reason I couldn’t resist to comment was with the justification…tú estás como el gobierno muchacho, al menos si vas a esconder la mano no salgas diciendo cualquier huevonada…

      • Bla bla bla…I never talked about morality in the choice nor about you congratulating me (I couldn’t care less). And you still don’t get the point. Anyhow, I would presume that then you don’t consume gasoline because it is sold by the govt., that you don’t want to buy USD because the Americans invaded Irak, that you don’t buy iPhones because they employ cheap labor in China etc. etc. There are negative and positive consequences in all choices, financial markets are no exception. The only thing standing between a complete breakdown of the country and some sort of rationality in it is the respect for financial obligations. There is nothing to justify, it’s simple. Are investments in PDVSA bonds the reason why the country is in the state it is? Nope.

        You are just angry and frustrated but you should vent your anger at your politicians instead. And no, the majority of Venezuelans, many who live in slums, DON’T know, you might need to come off your ivory tower and speak to people in the streets to find that out.

        Next time skip the insults please, you are acting like the Chavistas you despise so much.

  4. When a company goes bankrupt there are rules which set a limit to the amount of debt which can be recovered by the creditors , and after that the party in bankrupcy can rebuild its life afresh, in the case of countries there are no formal rules that specify the consequences but there are customs which are applied by consensus and which also set limits to what debt can be recovered by a countrys creditors. these rules are not specific and have to be hammered out , but in the end the creditors and debtor country make a bargain which allows a part of the debt to be paid under less stringent conditions and the bankrupt country to start again . GM’s bondholders took a big hair cut when GM went broke , some payments went unpaid or were deferred …….and changes where made to GM which allowed GM to continue as a business……., why should a countrys bankrupcy be held to more strict standards ??

    • Bill, using GM as an example is not a good choice. I was very involved in the restructuring process of GM and I can tell you that US Corporate Law was breached in an unprecedented manner by Obama and the US Treasury who made bondholders negotiate with a gun pointed at their heads. Essentially, the claims held by bondholders where significantly higher than those held by the employees. However, the amount of equity (of the new GM) given to bondholders was significantly less than that award to employees (in a disproportionate manner though as I don’t disagree with the principle of giving a better treatment to employees as long as it is reasonable). It was a pure act of populism and demagoguery and management of the company didn’t not improve significantly as a consequence. The only improvement in the company was that debt was practically slashed to zero and everything remained as it was (a big contrast compared to the successful turnaround of Ford which didn’t recur to such techniques) so of course the company was going to produce profits thereafter! Bondholders were rushed to take a decision and bullied by the U.S. Govt.

      In any case, to your point, PDVSA is a corporate, state-owned, but a corporate above everything so it can’t be held to other standards other than corporate standards/law. In the case of Venezuela, it is different and in fact, treated differently. Countries don’t go bankrupt in the strict legal term. Venezuela could default and the consequences would be somewhat less dire than if PDVSA defaulted.

      • Venny now it was passed to the military, for safe keeping, you are a master. or know. please explain, por favor yo no conozco mucho, o se!

        • Pdvsa is a corporation owned by the State , but it doesnt own the oil deposits it exploits which are owned by the state , what it has is a govt license to operate those deposits which license is automatically revoked if it goes broke , Legally once the license is revoked all facilities and installations used to produce and refine the oil automatically pass to the state who can then assign those facilities and the exploitation rights to another newly created state company , the oil sale proceeds of the new company are not subject to seizure by the creditors of the old bankrupt Pdvsa because they belong to the new company outright and with good title. In any event if you prevent Venezuelan oil industry to operate then there is absolutely no chance for the Pdvsa creditors of getting paid . Citgo and other offshore assets of Pdvsa are near worthless if they have no access to Venezuelan crude and besides are heavily mortgaged to other creditors so good luck to Pdvsa creditors in getting anything from seizing them. Most sales of oil by Pdvsa are done on a FOB basis where title over the oil passes to the purchaser in Venezuela upon its receipt by a vessel which is usually hired by the purchaser , so that Pdvsa has not property on board that vessel once it leaves Venezuelan shores……., of course the Chinese also have their ‘pound of flesh’ to claim so they would add their claims to those of the other creditors and fight with them to assert having a priority interest……. The above would take a bit of legal engineering but would not be undoable……. The legal squabbling would be tremendous but the creditor would have a tough time getting any of their money back….., not sure where a Pdvsa bankrupcy proceedings would take place , if it takes place in Venezuela and the creditors want it to take place in another jurisdiction that in it self would involve a legal fight as has never been seen …Pdvsa is after all a Venezuela company incorporate in Venezuela under Venezuelan Law with the bulk of its strategic assets in Venezuela and maybe owning the Venezuelan state and its 120 thousand employees a load of money……!!

          • Bill, I agree with your view in terms of process although I think it would make little sense to implement it. The process you suggest means that Venezuela would just shut down the only company (pretty much) that produces dollars for an amount of time (to be determined how long could this take) until it transitions to a new co. (which by the way will NOT have a “good title” given what it just did) and all for the sake of?? Keeping subsidies (free gasoline and subsidized food?) which don’t produce money? That sounds very irrational to me. Why risk the only thing that produces money for things that don’t produce money? The obvious thing to do is raise prices, end subsidies, etc. to make better use of the dollars earned and only then can they think about sitting down with creditors to negotiate a friendly restructuring. The not obvious thing to do is default, risk the revenues for an indefinite amount of time (defaulting sounds easy and quick on paper but I can assure you not in practice) and eventually run out of money or at least temporarily not have money to pay for subsidies (which don’t produce money). And I am not even getting into claims from employees, etc. So now we go back to my first point, where is the money going to come from to pay for the goods at the real price? $5-10bn. less p.a. used to pay debt and diverted towards subsidies won’t change the fact that the goods are being sold at a price lower than it should be and demand is always going to be much higher than the offer (especially if there is an incentive to get the good and resell them at a higher price abroad or internally)

  5. Por qué coño entonces a Argentina no le retuvieron ningún activo cuando defaulteó dos veces? En serio, nadie se ha dado cuenta? Si ni Elliott Managment pudo contra el total de deuda de Argentina, dudo mucho que puedan hacer algo de Venezuela acá. Dejen de pagar esa mierda y punto.

    • Argentina tuvo que pagar más de $11.000 millones de dolares este año luego de estar fuera del mercado 14 años por no poder emitir, debido al juicio que tenía. Yo no diría que salió sin consecuencias….todo lo contrario. A veces con la litigación (sin embargar activos) una corte puede poner a un país contra la pared. Además, los activos de los que hablo acá son de PDVSA, no la República per sé. Los que los hace más vulnerables. No es tan simple chigui.

  6. Reminds me of Ceacescu in Romania. He opted to pay the debt, in similar circumstances. The day he finished paying the debt, the financial markets closed the door of credit to Romania.

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