How Venezuela Bondholders Finally Ran Out of Time

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Venezuela Leaves Markets Confused on Restructuring News

Predicting when Venezuela will finally default has been a decade-long parlor game for bond buyers, but that day is nearing. President Nicolas Maduro said Nov. 2 that his country will seek to restructure its global debt following one final payment by state oil company PDVSA. He blames U.S. sanctions for making it impossible to find new financing, penalties that were imposed in response to his increasingly anti-democratic turn, including moves to rewrite the constitution and strip power from congress. Up to now, Venezuela has had a track record of paying its debts, and investors who’ve held on through the worst of times were rewarded with some of the world’s best bond returns. It’s not clear what comes next.

1. Why has Venezuela resisted defaulting for so long?

That choice has confounded socialists and capitalists alike, but it boils down to the risk that Venezuela’s international oil assets could get seized by creditors or tied up in court. Through PDVSA, Venezuela -- home to the world’s largest petroleum reserves -- has offshore refineries and oil receivables that investors will almost certainly try to make a play for if their bonds go unpaid. PDVSA’s Houston-based refining arm, Citgo Holding Inc., has also been used as collateral to back some bonds. And if creditors start going after Venezuela’s oil assets, buyers of its crude are apt to turn to other sources, depressing not only demand but the price of Venezuela’s main treasure.

2. Why now?

PDVSA had two payments due on its bonds in late October and early November; it fulfilled the first a couple of days late and Maduro says he will pay the second. From then on, the nation will move to renegotiate sovereign and PDVSA debts with banks and investors, though it’s unclear how they plan to do so when sanctions currently prohibit U.S. investors from engaging in a restructuring. That’s adding to confusion over when a default will actually occur, since Vice President Tareck El Aissami, who was appointed to lead the talks, also said the nation will continue paying its debt, like it always has.

3. How did the U.S. sanctions play into this?

The U.S. has been escalating measures, going as far as banning the purchase of new equity and debt issued by Venezuela and PDVSA, and restricting business with private individuals and companies. That means the Maduro regime can’t raise money from many international investors -- and a debt restructuring would be incredibly complicated if not impossible. Recently, the regime’s sweeping victories in gubernatorial elections have been marred by fraud accusations, renewing criticism by the U.S. and speculation that Trump’s government could impose steeper economic penalties, such as a ban on oil imports. About 40 percent of Venezuela’s petroleum exports go to the U.S., bringing in about $10 billion. While the country could find other buyers, it’d probably have to sell at a discount.

4. What would a debt restructuring look like?

It would be enormously complex, particularly now that the U.S. effectively banned investors from participating in a debt restructuring with the current regime (since that would likely entail swapping old bonds for new ones). Plus, with El Aissami himself in the cross-hairs of the Treasury Department for his alleged dealings with drug traffickers, the prospects for talks are even cloudier. Some have speculated if Venezuela were to default, they could try a work-around by getting the Chinese to buy back investors’ bonds. But in all likelihood, U.S. investors would be too skittish to try to engage in something like that, and the debt would trade in default until the sanctions are lifted. At that point, creditors would have to figure out a sustainable repayment plan. Fights between creditors -- who are already beginning to organize -- would be inevitable as they sorted out who’s entitled to what. In addition to all the bonds, Venezuela owes billions of dollars in awards resulting from international arbitration disputes and to private companies with cash trapped in the country, while PDVSA and its subsidiaries have a slew of outstanding loans.

5. How bad are Venezuela’s finances?

First, the economics look poor. Foreign reserves have dwindled to a 15-year low of about $10 billion, a grim figure considering Venezuela and PDVSA are due to pay about $13 billion in debt before the end of 2018. Combine that with oil prices at half of what they were just three years ago, slumping crude output in a country that gets 95 percent of its export revenue from that one resource, triple-digit inflation and a rapidly shrinking economy, and it’s a tough road ahead. Second, the level of political turmoil is unprecedented, with deadly street protests against Maduro’s government, open calls for the military to stage a coup and shortages of affordable food and medicines as the government prioritizes debt payments over imports of basic goods. 

6. How creditworthy is the country?

Venezuela isn’t current with most of its key economic statistics, so the most basic data an investor would use to gauge the country’s creditworthiness aren’t available. One key number is the current account balance, a broad measure of trade that looks at money moving in and out of the country, including bond interest payments. Normally, a government would borrow money to plug any gap, but sanctions, and steep borrowing costs, preclude such a tactic for Venezuela. Estimates of the country’s current account deficit vary depending on which economist you ask and assumptions about how much the country has slashed imports to keep paying its debts. Still, the situation looks unsustainable.

7. When will the money run out?

To make ends meet, the government has blown through central bank reserves. That hoard consists of just $1 billion in cash, with much of the balance made up of gold bars, according to investment bank Torino Capital. Venezuela bought itself some time by taking advance payments for its oil from China and Russia. And it has dramatically reduced imports. However, the economy depends on foreign manufacturers for everything from antibiotics to baby formula, and shortages have already become severe, so the humanitarian costs are significant.

8. What if there was a change of government?

Investors believe a new government would work for a faster resolution and is a necessary condition for getting a restructuring done. Still, a new regime would almost certainly seek assistance from the International Monetary Fund, which would probably recommend imposing steep losses on creditors. And some opposition leaders have warned they’ll flat-out refuse to honor certain debts -- including some bonds bought by Goldman Sachs Asset Management -- that they say are part of a fund-raising effort by the dictatorship that skirts congressional oversight. Critics of the Goldman deal said the bank had thrown the government a lifeline through “hunger bonds,” so named because Venezuelans are going underfed so the regime can keep up debt payments.

9. Is there any precedent for Venezuela’s situation?

There are some similarities to the devastating case of Romania in the 1980s when dictator Nicolae Ceausescu imposed Draconian austerity measures in an obsessive drive to pay off the country’s foreign debt by the end of the decade. Living standards plunged as food, heating, electricity and medical care were rationed. Ceausescu knocked out the debt, but by then, public anger was so high that he was overthrown and executed a few months later.

The Reference Shelf

  • An analysis by Georgetown law professor Anna Gelpern on Venezuela’s parallels with other debtors in crisis.
  • A paper on how to restructure Venezuelan debt by attorney Lee Buchheit and Duke University Professor Mitu Gulati.
  • A July report by Torino Capital’s Chief Economist Francisco Rodriguez titled “Sanctioning Venezuela.”
  • A Bloomberg View commentary by Rodriguez on Venezuela’s reasons to avoid default.
  • A commentary by Harvard professor Ricardo Hausmann.
  • A QuickTake Q&A on Venezuela’s “hunger bonds.”



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