In the hardy crew of risk-tolerant traders specializing in Emerging Market ‘High-Beta’ fixed income —the riskiest, most volatile and speculative bonds of the Emerging Markets world— the Venezuela bond (“Venny,” in the lingo) dealers are consistently among the most active. Investors dabbling in these bonds are addicted to the core. There’s just nothing like it, in terms of returns.

So, what would happen if the drug they’re all hooked on was removed from the market overnight? Once seen as an impossibility, this scenario is now front-and-center, after  the Wall Street Journal  reported two days ago that the Trump administration was possibly considering taking Vennys out of the New York Market as part of a sanctions escalation on Venezuela. Bloomberg is reporting that fresh sanctions will come today — it’s not impossible this could be one of them.

How draconian the measure might be is still up for grabs. Administration officials are reportedly considering either,

A) A temporary ban on all Venezuela/PDVSA dollar-denominated bond transactions by US entities that

or

B) A permanent trading ban on the most recent debt issues; specifically, the PDVSA 6% 2022 Hunger Bonds (aka, ‘P22n’) and/or the VENZ 2036 (aka, ‘V36’) notes issued through chinese brokerage Haitong Securities.

Scenario A would amount to a draconian ‘nobody gets in, nobody gets out’ of the market from the day sanctions are effective. If you’re left holding Venny bonds when such a ban comes in, nobody in the States would be able to give you a legal way out of your position. High uncertainty is guaranteed in this scenario. This would be a new step for Treasury and there would undoubtedly be collateral damage for U.S. institutional investors, according to the analyst of BlueBay, a prominent UK investment firm covered by the Journal.

Scenario B is a more surgical approach. The bonds involved are the shadowy VENZ 36s we’ve written about in the past: they were privately placed in the books of Banco de Venezuela, and have never been sold for cash. By banning their trade, the U.S. could stop the Maduro regime from borrowing fresh money through lightly disguised ‘secondary-market transactions’, while trying to minimize the impact on the rest of the Venezuelan debt market and shielding legitimate investors (which are not providing fresh money to Maduro & Co.) from unnecessary losses.  

Already, the operation has given some market participants the heebie jeebies: “I would not touch them with a 10-foot pole”, said the chief investment officer of a Greylock Capital (a US hedge fund), when asked about his thoughts about the P22n, another one of PDVSA’s ghost issues.

Either way, the measures would be the first step against the Venezuelan financial system since Trump promised “swift economic action” against Maduro & Co., in retaliation for the Constituyente and the myriad of dictatorial excesses that have followed it.

Already, the operation has given some market participants the heebie jeebies: “I would not touch them with a 10-foot pole.

What’s less clear is the impact that such measures may have on the stability of the regime and on financial markets. Nonetheless, some in the market have decided to just jump to a conclusion: THIS IS THE END!

Bond prices went down by a point in the aftermath of the WSJ piece and now sit near 18-month lows as everybody seemed to be hitting the sell button first and asking questions later. It makes sense: if you don’t get out now and a trading ban comes in, you’re left holding a bag of smelly bolivarian turds.

And the expectations game isn’t helping: if Trump does impose a trading ban now, why wouldn’t he just go full-out oil blockade a little later? In such a scenario —the implications of which were already priced by the market and covered by CC last month— a credit event (as in, a ‘sh*t hits the fan’ event) in the near term is more or less certain.

Some bulls might say that it ain’t over; bonds bounced back yesterday over anonymous reports of an alleged ‘debt buyback fund’ organized between China and Venezuela that would seek a way around paying the bonds maturing in 2017 and 2018. Leaving aside what this new initiative may imply for the debt market (that’s meat for a whole new post), we can be certain that the geopolitical implications of any sanctions taken now are yuge; Trump would have Beijing as a big loser of a general trading ban, making such a decision much more costly and complex.

The government’s ability to pay, already compromised and almost entirely dependant on ‘backdoor’ external borrowing, would be in even worse shape under a trading ban.

For one thing, anything that gives the government a face-saving way out of continuing to pay may lower the political cost of default. Bloomberg had a story on it yesterday: “If it’s the gringos versus Venezuela, maybe their willingness to pay falls”, according to a portfolio manager in Stone Harbor, one of the biggest sharks in the Venny tank. In a way, debt sanctions would make the perfect excuse for defaulting and blaming it on the Imperio.

The devil is very much in the detail here: if sanctions are not carefully drafted, payments themselves could be blocked, leading to a bizarre kind of technical default where the country wants to pay and can pay but isn’t allowed to pay. If the US government were to impose a trading ban, it follows that it could extend to block not only buy/sell transactions, but interest and principal payments as well. Sound far fetched? Sure. But then Delcy is chairman of a Constituent Assembly, how far fetched would that have sounded to you in February? Plus, there’s even precedent for this kind of situation: Argentina in 2014.

Quitting ‘Cold Turkey’

Several counterparties have been actively preparing for the worst and putting their own contingency plans in place. Earlier this month, Credit Suisse announced an internal ban to trading the highly contentious P22n and V36 “ghost bonds” we’ve repeatedly written about in the past, as well as any other security issued by a Venezuelan entity after June 1st, 2017. The decision was made in order to ensure that the bank “does not provide the means for anyone to violate the human rights of the Venezuelan people”, as stated in the company memo outlining the ban.

To add insult to injury, the following message has been reported to pop up in the screens of several clients of US-based Interactive Brokers:

The costs of just saying NO to Vennys

A broad-based trading ban would face real difficulties politically at home. So many Wall Street players have been making so much money on Vennys for so long, the temptation  to circumvent the ban will be strong. You can imagine banks discretely directing their trades through offshore vehicles, creating a ‘grey’ or ‘black’ market for Venny bonds that would leave us with a less transparent market that carries greater transaction costs for investors. Worse, the restrictions could leave the whole market up-for-grabs, empowering organized crime groups to take a leading role at the Venny casino at the expense of the mainstream investment community.

If you outlaw Venny trading, only outlaws will trade Vennys.

A broad Venezuela debt trading ban would imply sizeable losses for all Venny investors, even if they’re not supporting Maduro directly. A ban wouldn’t restrict the government getting help from its Russian or Chinese allies.

In my view, a broad ban over all VENZ/PDVSA bonds currently in circulation is not feasible, nor is it obvious how it would hurt the Venezuelan regime. Brutalizing secondary market investors who never have and never will put a penny in Maduro’s pocket would be a very strange way to go about this whole thing.

A broad Venezuela debt trading ban would imply sizeable losses for all Venny investors

The much more likely strategy is a more narrowly-focused ban on the PDV22n and VENZ36 bonds. Targeting these ghost bonds —which are obviously politically tainted and have no proper legal basis— would concentrate the costs on the regime while minimizing losses to Wall Street.

By the way, if you wondered what this all means for the average Venezuelan back home, the answer will be somewhere between “un carajo” and “nothing at all”. Or maybe it does.

It’s all about how the country has turned into a high-stakes casino run by The Big Forks, and how the rest of the nation is immersed in an unprecedented, never-ending collapse. The government doesn’t care or fear for anything other than the specter of the casino being forced to shut down for good.

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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.

41 COMMENTS

  1. Bring it on Trump! China + Russia won’t take it lightly. Geopolitical storm beginning in 3, 2….

    Note the irony in that some anti-government supporters are cheering for market interventions. So market interventions are good when these fit with your political ideals.

  2. “By the way, if you wondered what does it all mean for the average Venezuelan back home, the answer will be somewhere between “un carajo” and “nothing at all”. Or maybe it does.”

    Heh, best line in the article, finally somebody stops claiming that “touching chavismo’s massive swindle structures will be worse for the people”

  3. I don’t know if US law allows for this possibility.
    I would like to see the US ban trading of all Venezuelan securities AND allow the Fed or the Treasury to buy them at the last closing price.
    This would give the investors a way to redeem their bonds.
    It would possibly eliminate the vulture funds picking them up for a few pennies on the Dollar and forcing full payment down the road from the next Venezuelan government.
    The finance markets would be closed to the Maduro regime while the US would have standing in court to go after Venezuelan assets while Maduro is in power.
    When the criminal regime is finally toppled the new Venezuelan government can repay the US taxpayers their costs plus a reasonable interest rate.
    The US taxpayer would come out whole and the Venezuelan people would be saved Billions of Dollars that will be needed to rebuild their country.
    The is a blurred line between Russian and Chinese businesses and governments. This puts the US on a more equal footing and gives us more influence to help the Venezuelan people when these accounts need to be settled.

  4. The Trump administration banned trades of Venezuelan debt, prohibiting Maduro’s government and its state-run oil company, Petróleos de Venezuela SA, from selling new bonds to Americans or in U.S. financial institutions. President Donald Trump signed an executive order approving the sanctions Thursday.

  5. “Most existing Venezuelan debt traded in the U.S. was issued by PDVSA. The sanctions don’t prohibit the resale of those bonds, only purchases and trades of new PDVSA debt.

    But trades of existing bonds issued by the Venezuelan government — which are different from PDVSA bonds — will be barred, a move intended to harm and sow discontent among Maduro’s inner circle. That debt is held by high-level Venezuelan government leaders, who will now be forced to turn to other so-called secondary markets (say, in China or Russia) to sell.

    There will be a 30-day “wind-down” period in which certain Venezuelan debt trades will be allowed. Exemptions will also be made for financing oil exports and imports and transactions involving PDVSA’s U.S. affiliate, Citgo, or its subsidiaries. Financing will be permitted for Venezuelan government securities with a maturity of less than 30 days and PDVSA securities with a maturity of less than 90 days, to avoid constraining credit for necessary oil shipments. And financing for humanitarian goods, including agricultural commodities, food and medicine, will also be allowed.”

    • Its very cunningly crafted and carries lots more punch that may initially appear , there are some subtle implications that require carefully deciphering before they are fully understood. Citgo as a US company is going to have to vet every little transaction to make sure it doesn’t fall for some well laid traps. Look at the definitions , they have really done a lot thinking in preparing this measure , one item that will require looking into is how do you define new debt , when is a change to the terms of an existing debt a ´new debt’ (an extention of the payment term , any change to the coupon rate…..??) my guess is that financial companies are going to be very careful in ´dealing´with anything which might be interpreted as violating the sanction or keep their distance for fear of being perceived as aiding a tyranny ( reputational damage) much like the Swiss banks did . If this a sign of future measures then its going to be a hell of a ride for the regime trying to get any financing …… !! and its the kind of sanction that ordinary folks don’t understand enough to get riled about ………!!

  6. So the “hunger bonds” are excluded from the ban. Why? Probably because Mnuchin’s ex-buddies at GS bought them. They need to inflict some damage but not too much damage, since the US public/private revolving door needs to stay open to receive all the current politicians back to the private sector with open arms.

    What a disgusting and hypocritical way to conduct politics. Not surprising though.

    By the way, the govt and PDVSA were already cut off from issuing new debt because the yields were too high so not much changes in practice. What does change is how China and Russia are going to react going forward.

    In the meantime, keep calm and carry on.

    Peace.

    • Actually its even worse, all previously issued Venezuelan debt still trades, not just the newest bonds. But they can’t issue any new debt, its a hand out to wall street that makes money trading all the old Venezuelan bonds, but prevents Venezuela from getting money for much needed money for food and medicine imports.

      • yeah right Judy, do not want the wall streeters to make a buck, but your chavista friends and Maduro, now that another story.

    • Uh, no, Venny, actually the hunger bonds and the other “hugriest” bonds are the ones at the center of those sanctions.

      Now investors will think thrice before giving more money to the enchufados so they can continue importing planes full of whisky.

  7. The reason for the different treatment of PDVSA and Venezuela bonds is laughable. Hypocrisy.
    On top of that, now everything will be the “financial blockade’s” fault.
    Have they not learned anything from the way the dealt with Cuba?
    Unbelievable.

    • This is a transparent attempt at regime change by Trump and will only increase support for Venezuela. The way is not sanctions, but negotiations and an end to protests and violence in Venezuela.

    • ” Have they not learned anything from the way the dealt with Cuba?”

      You should study history instead of eating chavista propaganda, read about the missile crisis to find out why the castrista regime is still standing today, it has nothing to do with any “bloqueo” of any sort (Bloqueo that NEVER existed, by the way, as everybody and their mothers could still keep selling stuff to the regime)

  8. Another BS toothless measure. May as well ban the trade of Venezuelan smoked pork bellies.

    We, dare I say, “were promised” based on the announcements, “swift and strong” action…in Venezuelan: a “tumba rancho” type and we get a triquitraque? This is a joke.

    Just more ammo for the propaganda machine (on both sides).

  9. Repeat after me: CULPA DEL BLOQUEO, CULPA DEL BLOQUEO. Maduro must be drinking Dom Perignon. Makes you wonder how inept american diplomacy really is. Reminds me of the definition of stupidity.

      • Repeat with me the gospel of the objective truth of the world’s reality:

        CULPA DE LOS ENCHUFADOS, CULPA DE LOS ENCHUFADOS, CULPA DE LOS ENCHUFADOS.

        These enchufados are crying their eyes out for this, so keep going on, my new favorite president Big Orange Wig! :V

  10. What John said: Buy part of the debt, enough to control Maduro’s financial blunderings and keep high ranking officials from cashing in. That’s investing in Venezuela and pressuring Maduro big time. A bold strategy for sure.

  11. Fact is, Maduro’s economic ministers are totally outmatched by international bankers. They’ll fleece this poor rube of the very likiliki on his back. Game over.

    • “Maduro’s economic ministers are totally outmatched by international bankers”
      Hell, They are outmatched by 8 year old’s with lemonade stands.
      Part of the Quantitative Easing that Bernake’s Fed initiated, eventually evolved into buying private debt.
      Originally the Fed only bought US debt. This really was just an innovative way to print money and has increased the US money supply by almost 400%.
      Regardless of the arguments against Quantitative easing, purchasing debt other than US government debt may have opened the door to some type of purchase of Venezuelan debt.
      It has been alleged that regime members have been trading Venezuelan debt and have benefited from the knowledge of finances and the possibility of default. While other investors have sold bonds at a discount, the regime insiders could buy with the confidence that the debt would be serviced. This would end that supply of Dollars.
      Stopping existing debt from being traded and offering a redemption at the last market price, may stop the vulture funds from acquiring Venezuelan debt and avoid the issues that Argentina was forced to deal with.
      The vulture funds bought the Argentine debt at a 90% discount. This made the risk / reward attractive to them considering the length of time it took to realize their profits.
      The higher price of Venezuelan debt, compared to vulture fund entry points, coupled with complete uncertainty of redemption, may bring a large portion of this debt under US government control.
      If 25% of Venezuelan / PDVSA debt ( I consider it one and the same) were brought under US ownership and was eventually redeemed by the US on a cost basis rather than face value, it could eliminate 15% of the Venezuelan foreign debt.
      I would rather see this done than this debt being repaid at face value through an IMF restructuring.
      The estimates that I have used in trying to make sense out of the Venezuelan oil production and the amount of oil that is available for monetizing into Dollars may have been too high. Other analysts estimate that Venezuela only has about 700,000 barrels per day available for sale out of the approximately 2.1 million barrels per day of production. If these estimates are correct, PDVSA is operating at a very big deficit.
      the 700,000 BPD does produce enough money to cover the lift costs on the 2.1 million BPD.
      The only thing that keeps them afloat is new debt, raiding the pension fund (more new debt) and redirecting cash flow from maintenance.
      I would like to see the EU impose the same sanctions as the US. This would leave Russia and China as the financiers of last resort. Extending credit to the regime that is not approved by the National Assembly and hopefully will never be repaid.
      I believe the long game for both Russia and China is control of Venezuela’s national resources. Their collaboration with the government makes both of these countries conspirators in the violation of the Venezuelan people’s human rights. They should never be rewarded for their immoral actions.
      The Wall Street bankers have always had a disproportionate amount of influence in Washington. If they start whispering in the ears of the recipients of their campaign contributions that the Venezuelan regime needs to be replaced, the momentum against this regime will increase markedly.
      Before regime change can be accomplished without a civil war that results in sectors of the country being controlled by opposing factions, (ala, Syria, Libya, Somalia) there has to be something credible to replace the regime.
      The opposition should immediately establish a shadow government in exile that creates the needed plans for a transitional period to restore order and initiate fair elections. The government in waiting should address the economic challenges and forge agreements and policies that can be immediately executed. We have learned the hard way that toppling a regime and leaving a power vacuum can lead to anarchy. That mistake can not be made again.

  12. “A shadow government in exile” is a good idea, but, more likely the current Oppo leaders will end up exiled in the shadows of Govt. dungeons (for treason, et. al.).

    • It reminds me Ben Franklin’s admonition to the other revolutionaries.
      “We must all hang together or we will most certainly hang separately.”

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