Think Twice Before Buying Cuban Bonds

It will take an act of Congress to restore the market

If anyone in the U.S. knows the market for defaulted Cuban debt, it’s Leo Guzman. The walls of Guzman & Co., his Coral Gables (Fla.)-based brokerage firm, are covered with framed copies of the island’s defaulted sovereign and municipal bonds, as well as bond and stock certificates from Cuban railroads and sugar mills. He followed the country’s bond market for three decades, buying and selling a bit along the way, until trading was outlawed by legislation strengthening the U.S. embargo in 1996. So pay attention when he says it’s premature for investors to be interested in snapping up the debt for pennies on the dollar.

While President Obama restored U.S. diplomatic relations with Cuba in December, the 18-year-old statute that prevents U.S. citizens from investing in Cuban assets remains intact. And because the ban can be lifted only by Congress—currently controlled by the Republicans—Guzman doesn’t see the market opening up. “Investing could be a complicated issue,” says Guzman, 68, who came to the U.S. from Cuba in 1961, two years after Fidel Castro swept to power. “The move by Obama is largely symbolic. I would think that his chances of getting congressional approval are low and certainly not immediate.”

It isn’t only Americans who have been squeezed out of the market. Trading by investors in Europe and the rest of the world slowed to a trickle as the Obama administration stepped up its crackdown on global financial firms found to be violating U.S. sanctions on the Castro regime. Since 2010, trading of defaulted Cuban debt has averaged just $13 million a quarter. That’s down almost 90 percent from an average of $100 million a quarter in 2009, according to data from institutions that aren’t subject to U.S. bank regulations compiled by EMTA, a trade group for emerging-market investors.

There are many defaulted securities out there, including pre-Castro-era debt, such as a 40-year government bond issued in 1937 at an interest rate of 4.5 percent. In July, Russia agreed to write off 90 percent, or almost $32 billion, of Cuba’s Soviet-era debt. In total, Cuba’s foreign debt, including bonds and loans, is about $19 billion, according to estimates by Moody’s Investors Service, which rates Cuba’s bonds at Caa2, eight levels below investment grade. An e-mail to Guillermo Suarez at the Cuban mission to the United Nations in New York wasn’t answered.

The Herzfeld Caribbean Basin Fund, a closed-end mutual fund started in 1994 with the ticker symbol CUBA, aims to profit from improved U.S.-Cuba relations. After the Obama announcement, the $47 million fund saw gains in some of its investments, including Panama-based airline Copa Holdings and bottler Coca-Cola Femsa. The fund also holds defaulted Cuban bonds with a face value of $165,000. Because of the U.S. restrictions, it values those bonds at zero. “The reason we bought those is that we obviously expected them to get paid,” says Erik Herzfeld, co-portfolio manager for the fund. “If you look at what could happen, those could be quite valuable.”

Phillip Blackwood, whose London-based firm, EM Quest Capital, has held defaulted Cuban bank loans since 2008, says he hasn’t spotted any trades in the securities in about two years. The last he saw, they were priced at about 9¢ on the dollar. Obama’s move to normalize relations is “certainly positive, but it’s not a game changer,” Blackwood says.

Cuban President Raúl Castro, who succeeded his brother in 2008, has said he welcomes Obama’s decision and urged the U.S. to end a five-decade economic embargo against the Caribbean island nation. Castro has been working to make the economy less reliant on longtime patrons Venezuela and Russia, which have been squeezed by plummeting oil prices. He hasn’t said anything publicly about restructuring defaulted debt or paying $1.9 billion in claims by U.S. citizens and companies for expropriated property. If Cuba moves to resolve those issues, “Then the liquidity comes back,” says Oliver Takacs, founder of London-based Terium, which invests in and advises on illiquid assets. “But before then, I can’t see it frankly.”


    The bottom line: Moody’s rates the estimated $19 billion in Cuban foreign debt at eight levels below investment grade.

    Before it's here, it's on the Bloomberg Terminal.