Chavez’s 70% Gold Bet Unravels as Reserves Plunge: Andes Credit
The bet on gold that former Venezuelan President Hugo Chavez made in the final years of his life is collapsing at the wrong time for his country.
Chavez, who argued that Venezuela should move away from the “dictatorship of the dollar,” stockpiled more than 70 percent of Venezuela’s foreign reserves in gold by 2012, the highest percentage among all emerging-market countries and more than 50 times that held by neighbors Colombia and Brazil, according to the World Gold Council.
After rewarding Venezuela with a rally of almost 400 percent in the past decade, gold has tumbled 25 percent this year, helping drive the central bank’s reserves to an eight-month low and compromising the government’s ability to repay foreign debt. The yield on Venezuela’s dollar-denominated bonds has risen 62 basis points, or 0.62 percentage point, to 11.84 percent in the past month, compared with an average increase of 57 basis points for other countries in Latin America.
“Venezuela’s reserves have taken a big hit,” Francisco Rodriguez, an economist at Bank of America Corp., said by phone from New York. If current gold price levels continue, “then you will see an increase in perception that Venezuela’s capacity to pay is weakening.”
Central bank reserves fell below $25 billion last week from as much as $29.9 billion last year even as Chavez’s handpicked successor, Nicolas Maduro, has cut dollar supplies for importers, creating shortages of everything from toilet paper to butter. Standard & Poor’s reduced Venezuela’s credit rating to its lowest in eight years last month as the shortages worsened and consumer prices rose at the fastest pace in Latin America.
The cost to insure Venezuelan debt against non-payment for five years using credit-default swaps has climbed 377 basis points this year to 1,024 basis points. The cost was little changed today at 1:34 p.m. New York time.
The 970 basis-point premium that investors demand to buy Venezuelan dollar bonds instead of U.S. Treasuries is the second highest in emerging markets after Argentine debt, according to JPMorgan’s EMBI Global index.
The rally in gold had enabled Chavez, who died of cancer in March, to siphon off $45.8 billion from the central bank to an off-budget development fund since 2005 while keeping reserves above $25 billion for most of the period, according to the Finance Ministry. The fund, known as Fonden, invests in infrastructure projects.
The central bank didn’t respond to an e-mail seeking comment.
“Not only have total reserves fallen we also have the lowest level of cash reserves,” Jose Manuel Puente, an economics professor at the IESA business school in Caracas, said by phone. “By having a low position in cash reserves the central bank’s capacity to address the foreign-exchange market weakens.”
The government has held only one auction of dollars since introducing a new exchange system in March, forcing many importers to turn to the black market for funds.
The dollar cost 31.4 bolivars on the black market in the Colombian border town of Cucuta, according to the website DolarToday.com, compared with the official exchange rate of 6.3.
As the supply of dollars dries up, the central bank’s scarcity index, which tracks the number of staple goods out of stock on supermarket shelves, rose to a five-year high of 21.3 percent in April, before dropping back to 20.6 percent in May.
At the same time, inflation accelerated to 35.2 percent in May from 20.1 percent last year, faster than any of 103 economies tracked by Bloomberg.
“Venezuela has been losing cash reserves because of an excessive demand for dollars from the import sector due to an overvalued exchange rate,” said Victor Olivo, an economist at the Universidad Central de Venezuela in Caracas and a former economist at the central bank. “This is a government which consumes lots of funds in projects that don’t generate dollars and almost the only export is oil. There are underlying problems that need to be resolved.”
Even now, the government should be able to maintain current levels of currency reserves by transferring cash back from off-budget funds, said Benjamin Ramsey, an analyst at JPMorgan Chase & Co. Fonden had $16.9 billion in assets at the end of 2012, according to its annual report.
Still, by repatriating 160 tons of 211 tons held in U.S., European and Canadian banks starting in 2011, Chavez limited the central bank’s ability to sell the metal as it seeks to shore up its reserves, Ramsey said.
“It’s limited the operational use of that gold,” he said in a phone interview from New York.
Venezuelan reserves were sufficient to cover a month’s worth of imports in 2012, compared with 10 months in 2005, according to the World Bank. Brazil’s reserves covered 13 months of imports in 2012, while Colombia and Chile had enough for five months.
Moreover, Venezuelan reserves are lower than calculated by the central bank, according to Tamara Herrera, chief economist at Caracas-based financial consultancy Sintesis Financiera. The bank uses a six-month moving average for bullion, which has delayed the impact of the slump in prices, she said.
Gold prices and Venezuela’s reserves may fall further if the U.S. Federal Reserve slows its program of asset purchases, known as quantitative easing, or QE, said HSBC Securities Inc. analyst James Steel.
“The market is vulnerable to another sell-off possibly when QE tapering actually happens,” Steel said in an interview July 3 on Bloomberg Radio’s “Bloomberg Surveillance.”
Bullion futures slid 23 percent in the second quarter, the most since at least 1975, as Federal Reserve Chairman Ben S. Bernanke said the Fed may slow its bond-buying program as the U.S. economy strengthens.
As falling gold prices whittle away reserves, Venezuela is also receiving less dollars from state oil company Petroleos de Venezuela SA, whose exports dropped 13 percent to a two-year low in the first quarter.
While the government spent $59.3 billion on imports last year, PDVSA expects to transfer only $41.5 billion to the central bank this year, Oil Minister Rafael Ramirez said March 19.
“There are some fundamental structural problems in Venezuela and the issue of the gold reserves is an aggravator,” said Bianca Taylor, senior sovereign analyst at Loomis Sayles & Co LP in Boston. With a potential balance-of-payments crisis looming, “having reserves in gold in a bear market for gold makes it even more difficult for them.’