The regime took drastic measures to make yesterday’s $2 billion bond payment. Having cut imports by a staggering 73% since 2012, having put up all of CITGO as collateral for loans, having carried out an onerous debt swap with an implicit interest rate of 21%, the regime reached a new low: it started pawning Venezuelan assets.

According to this piece by Reuters reporters Brian Ellsworth and Corina Pons, the Banco Central de Venezuela (BCV) handed over $1.3 billion in previously unsold PDVSA 6% 2022 bonds to Fintech, a Mexican finance firm. In return, it got $300 million dollars cash. The repurchase agreement or “repo” valued PDVSA’s bonds at just 23% of their face value (!).

Let’s be clear, the PDVSA bonds in question are not “collateral”. Collateral is something borrowers own and stand to lose if they don’t pay. Repos don’t work like that —BCV transferred ownership of the PDVSA bonds to Fintech. BCV only gets the bonds back if it returns the money. Until BCV pays —and unless BCV pays—, they’re Fintech’s.

It’s big money and the details sound complicated, but the basic structure of the deal is simple enough to fit on a pawnshop storefront: Compra venta con pacto de retroventa.”

If Venezuela doesn’t show up with the $300 million (+interest) when the contract ends, Fintech simply sells the bonds in the open market.

Instead of a wedding ring, BCV pawned $1.3 billion of PDVSA bonds, that’s all. The structure is the same.

As for Fintech, it’s the finance world’s version of a pawn shop. Wall Street will describe them as “distressed debt lenders” —but let’s be honest, Fintech specializes in dealing with trainwrecks who are out of options. They won’t risk a single dollar without rock solid guarantees.

The contract isn’t public, but think like a vulture and you can pretty well guess what’s in it. If Venezuela doesn’t show up with the $300 million (+interest) when the contract ends, Fintech simply sells the pawned bonds in the open market. That’s why they own them in the first place. All of a sudden, instead of the Central bank owing Fintech $300 million, PDVSA owes bondholders $1.3 billion, creating $1 billion dollars in new external debt. As in POOF! Venezuela gets a billion dollars poorer, ipso facto.

For Fintech, keeping Venezuela’s pawned bonds could actually be the better scenario. As of yesterday, they would fetch about 38% of their face value on the open market (based on trading activity for similar bonds). Divide 38% by 23% and you see that Fintech would get a handsome 65% total return.

If Venezuela does pay the $300 million principal + interest at the end of the contract, BCV gets the bonds back and PDVSA doesn’t have to pay the $1.3 billion in 2022. The question, though, is how much interest?

Again, the deal isn’t public, so we’re left to guess. If the regime is just paying the 6% interest on the $1.3 billion PDVSA bonds for just $300 million cash, that comes out to 26% interest. If they negotiated something else, then it’s the something else. My bet is that Fintech settled for nothing lower than 20% interest. Why? Because they can. The regime is desperate and has no leverage. The Nomura repo failed, the attempt to sell off Petropiar set off a constitutional crisis that snowballed into a diplomatic disaster, and Venezuela was negotiating with its back against the wall days before yesterday’s maturity.  

Why would a country with $10 billion in international reserves strike a deal this terrible rather than just un-saving $300 million?

The whole thing is like a Bugs Bunny coin flip: heads, Fintech wins; tails, Venezuela loses.

Importantly, everything we said about the failed Nomura repo applies to this repo, too. The deal is of questionable legality, since it didn’t go through congress. BCV could still be forced to hand over yet more bonds to Fintech if PDVSA’s bond prices drop below a certain threshold (i.e. the contract might contain margin calls). And if Venezuela doesn’t pay up, the cash-flows will be as bad as if it had issued debt at 30% in dollars.

The operation also feeds doubts about Venezuela’s savings: why would a country with $10 billion in international reserves strike a deal this terrible rather than just un-saving $300 million? How can a country that produces $70 million dollars a day worth of oil be this pressed to come up with such little money? It doesn’t add up.

Reuters’ Marianna Parraga ran a story on PDVSA’s fuel imports that puts all this in perspective. She reports that PDVSA recently overpaid $130 million to British Petroleum for U.S. crude cargoes because PDVSA didn’t have the cash to pay on time and BP’s tankers were docked idly for weeks. You read that right: PDVSA just flushed $130 million dollars —almost half of the money from this repo-pawn— down the toilet because its admin is screwed up. Unbelievable.

Pawning Venezuela’s assets in conditions like these is unsustainable and self-defeating. Everybody loses when the country delays inevitable structural reforms and/or default by refinancing debts at ever-higher rates: Venezuelans desperate for food and medicine, what’s left of the private sector and PDVSA, and yes, even bondholders hoping to get paid someday.

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  1. Thanks Frank. I appreciate the in-depth financial analysis.
    The image you are presenting suggests that Venezuela is hanging on to the precipice of default by its fingertips. It is a bad deal for Venezuela and the secrecy confirms the sad situation.

    Many corrupt Venezuelans, such as Mariel Chavez, Cabello, Maduro and spouse, Tareck El Aissami, and likely a hundred of more Generals and other high ranking Chavistas could have paid the $300 million out of their checking accounts. It must be a really risky deal, if these people refuse an opportunity to quickly double their bolivars.

    • Wait a minute. Did you figure in kickbacks from Fintech, the Mexican finance firm, back to Maduro et al? This would make the deal less appealing and soften the really fantastic terms.

      Never forget that Venezuelan financial markets always have extra fees involved.

  2. Frank, why do you assume that using the bonds for the Fintech Repo means that these bonds are created? In my opinion, they had already been issued (or created). PDVSA was never off the hook from paying such bonds because the BCV held them, so there is no creation of a “new $1.3bn. of debt”. BCV was a bondholder as any other.

    Broadly speaking, I don’t think it is necessarily a bad deal. It would depend on the interest rate (I reckon it is anywhere between 1-7%). There are very very few institutions who provide variations of leverage, loans, repos, on PDVSA/Venezuelan bonds. From that perspective, it is good if you can get financing based on those bonds, provided that the $300mm obtained can generate higher returns in order to repay both the principal and interest and still leave a profit.The BCV could easily reinvest those $300mm in more PDVSA bonds of a longer maturity (for example a 2022 bonds with a cash yield of 20.5%) and that will leave plenty of room to pay back the interest on the Repo. They probably did a variation of this.

    On another note, I really disagree with the typical rant from some analysts, politicians and CCS Chronicles authors about the desperation for food and medicine. Thinking that payment of bonds can be stopped and those funds be diverted towards food and medicine is just childish and unrealistic. If you don’t take it from me, then consider what Tamara Herrera said to Victor Salmeron in her interview for Prodavinci:

    “No cumplir, sin embargo, agravaria mas el cuadro actual. Muchos piensan que si se dejan de pagar los 9 millardos de dolares del servicio de la deuda en bonos, ese dinero se destinara automaticamente a importar y abastecer el pais. Es una simplificacion matematica infantil, porque los 9 millardos no existen. Hay que producirlos. Y si Pdvsa decidiera hacer default no va a lograr producir el dinero, porque la industria petrolera nacional estara sometida a acciones juridicas que dificultaran las operaciones comerciales y su cobro”.

    The problem in Venezuela is a price problem. If you go to Rey David in Los Palos Grandes, you can have breakfast for three at the equivalent of 15 dollars (which is still relatively cheap considering that the country imports most of what it eats and if you compare it to some other cities in the world). Obviously the place is empty, because no one can afford it. So, is the problem that the govt is not importing food or is the problem that the govt is not importing food and giving it away for free? The problem is obviously more complex than what the “we are starving” headline suggests, as the govt. destroyed the saving capacity of the citizens and wasn’t friendly to the local industry. Yet, we never hear this because the headlines keep saying the govt is paying bondholders and not importing food, we don’t even hear it from the most prepared people and certainly not from the Venezuelan opposition (the Prodavinci interviews published recently are among the few I’ve read).

    In general, everyone talks about adjustments, haircut of debt, not paying the debt etc. but few talk about the price adjustment part. No one will lend more money to Venezuela without a decent price reform. And people will starve then too and the only thing that dictates for how long they will starve is the time it will take to get investments and productivity back (which won’t be quick)

    • Epa! Thanks for the comment! Always appreciated. I’ll take it by points. 1st. That BCV is holding PDVSAs bonds is very different from Wall Street holding PDVSA’s bonds. BCV and and PDVSA are just different pockets of one same thing, the consolidated public sector. If one pocket owes another pocket some money, it doesn’t matter. The accounts net off at the consolidated public sector level.

      2nd. I emphatically do think it’s a bad deal. Venezuela is risking creating $1bn in new external debt for a meager $300million. If that’s not bad, I don’t know what is.

      3rd. I’m skeptical this money will be put to good use, “good” meaning in stuff with a high IRR. I don’t think their priority is buying back the long end of the curve. Food/PDVSA imports are higher on the list right now I think.

      4th. And this is perhaps my most important point. There’s a consensus in those Prodavinci interviews that Vzla is headed for default if there are no major policy changes. And it if you ask me, it doesn’t look like there will be any major policy changes. So delaying the inevitable by piling on more expensive debt, squeezing PDVSA dry and burning assets is only making the situation worse. If default is inevitable, it’s better to do it sooner rather than later. This is what I’m saying. I don’t mean to underplay the risks of default at all.

      5th. Totally agree. Venezuela’s broken price system is hemorrhaging the economy. It should be a top priority in anybody’s reform plan.

      • Those who study such say that historically, distressed nations generally benefit from a repudiation of sovereign debt but Venezuela is an extreme example. Having destroyed both their markets (pricing) and their productive capacity, Vz will have nothing to draw on except the body fat of their people, and that’s getting thin.

        All of that is by the way; without the rule of law they can’t rebuild productive capacity. Without a change of culture that deeply respects others’ rights, no rule of law is possible.

        Bond traders must necessarily believe that there’s a substantial chance that things will usually work out for the better but that does not alter reality. Venezuela’s reality is grim and getting grimmer.

      • Thanks for your prompt response!

        1) I am not sure the whole account netting off thing is that straightforward. That “should” be the case, but it doesn’t necessarily mean it will be the case (these guys are not the best representation of due process). Moreover, in the meantime, they may trade them, make money out of it, etc. Hence my question. But moreover, I am pretty sure that bond has already been included in the reports that tally the debt etc. (except for illiterate Bloomberg journalists writing about “mystery” bonds) and that there is a prospectus, etc. so at the point it was issued, it was approved by the AN of that time.

        2) I really think that can only be determined when one knows the interest rate. From my experience, not many people lend me money if I hand over my PDVSA bonds in collateral or repo them. Therefore, any amount that is above zero is good for me provided that the interest rate is not excessive and the maturity suitable. I find that one of the biggest mistakes that people and analyst make with regard to govt. and financial matters is to underestimate them. They are not stupid.

        3) Difficult to know

        4) Well, what can I tell you. I am a contrarian by nature. I couldn’t care less about the consensus (which by the fact, once again, as of yesterday, has been proved wrong). Why have they been wrong time after time? Simplistic analysis or trying to analyse the country as if it was Germany (once again, the same point I make in #1). Nevertheless, I liked the Prodavinci interviews because they went a layer deeper, which is not typically the case.

        5) At least we agree on one count!

        • Re point 5: Jaja – great!! Re point 1. I agree that it isn’t that straightforward. The bonds *were* issued. But crucially, they created 0 net debt because they were held as an asset by a public entity. BCVs asset cancelled PDVSAs liability. If Fintech dumps the bonds on the market, that’s another story. PDVSA’s $1.3 billion liability remains unchanged but BCV’s $1.3 billion asset turns into a $300mln asset. And poof, that’s the $1bn in new net external debt. Also, I don’t think Fintech will be trading the bonds, contract likely doesn’t allow it. And they wouldn’t want to anyways because they might have to return them to BCV when the repo is over.

          • Frank, when I meant trading them, I was referring to BCV trading them (which is what I think they are doing now). So here is my next question: do you not think that BCV earned interest on those bonds while in their custody?

          • BCV might have earned interest on the bonds, I’m not sure. If it did, it probably sold that FX back to PDVSA afterwards (at Bs.10) or discounted it from other transfers. My point is that the money stays in govt pockets if BCV has PDVSAs bonds. That’s why I think it’s not a terribly relevant question.

          • Hi Frank. Thanks for your articles. If there’s a default in the repo, BCV would owe $300 million. If they gave up $1.3 billion in collateral and Fintech sells all of that debt to cover for the $300 million, wouldn’t BCV be entitled to the excess? If so, wouldn’t the net external debt creation be less than $1.3 billion (assuming those $1.3 billion par of bonds are worth more than $300 million in the secondary market at the time)? I agree that the risk is asymmetrical here, but that’s something else altogether.

  3. Understand the CAF 400 Million US$ loan deal failed because they could not get the lawyers to offer an opinion that made the CAF confident that the transaction (absent a NA approval) would be treated as legal in the future , then the Rosnef deal fell because although they were less worried about the legal opinions they were alarmed at the international scandal which the TSJ decisions caused and the govts panicky response….!!

    The bonds were issued some years ago and held by the BCV for future disposal, nothing strange about that, but to treat the BCV as just another bond holder is the height of naivete…….!!

    If Pdvsa was so hard up in collecting the funds that they needed to make the April bond holder payments its difficult to think that they planned to use it to buy pending bonds on the cheap……. still its a possibility , maybe we should ask F Rod (!!) what he knows about that …

    What I find amazing is how the regimes fear of the opposition and its control of the AN is hurting them so badly on the financial front making their options to obtain better financing so utterly limited.. The govts behaviour is making the country risk rise to a level where all sane financial options are off the table and the govt is forced to make deals only on the most onerous terms….!! The oppo just by being there is provoking the govt to shoot itself in the foot again and again..

    Thanks Frank for the excellent piece and analysis .

    Now lets wait for October to come around , cant wait to see what they will come up next …..they are digging themselves into a deeper hole each time …… , Franks question is logical if they know they are going to need for an all out restructuring why not do it straight away ….!!

  4. Frank, what is your answer , and is there any way to find out, to the question, “Why would a country with $10 bill. in reserves strike a deal this terrible, rather than just unsaving $300 mill.?” Could it just be those excess juicy commissions involved, or, is it like “Dumb And Dumber”, when the money bag (vault) is opened, one only finds repo paper IOU’s? Venezuela waited til there were only $ 2bill.or so in reserves to devalue in the early 80’s, when Lusinchi found “la botija vacia”, so, why not spend only $300 mill. now, when reserves would still supposedly be above $10 bill., even if $10 bill. would somehow be the Govt.’s “magical number” minimum threshold?


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