The Maduro government of Venezuela does not have many friends left. It is pointing the army’s firepower at its citizens, blaming the US for its economic and political troubles, and can only watch as other oil exporters eat away its market share. Even the Chinese government is meeting the Venezuelan opposition parties. That must hurt.
So far, though, there is one group the Venezuelan government is making every effort to please: its foreign bondholders, in particular the New York distressed bond investors. Yes, the vulture funds. One might think Bolivarian socialism would not bend the knee to those openly planning for its demise, but up to now Venezuela has issued by the republic and PDVSA, the national oil company.
Venezuela’s hospitals do not have medicine, the stores do not have food or toilet paper, but there is an almost surreal confidence that bondholders will do quite well out of the coming restructuring, even with the damage done by governmental incompetence and corruption. Venezuelan dollar bonds are among the best-performing fixed income assets this year; holders of some issues are racking up returns of over 25 per cent.
The next big moments in the Venezuelan bond theme park ride come with the $3bn-plus PDVSA principal payments coming up in October and November. A non-professional observer might wonder why PDVSA and the government that owns it do not declare a moratorium before then, rather than selling off yet more billions of into a weak market.
And, indeed, over the past year, Venezuelan officials have had their coats pulled by investment bankers and law firms offering draft documents of exchange offers for PDVSA bonds, the republic’s bonds or the whole $61bn of traded paper. In recent weeks, though, that talk has quieted. As one lawyer says: “It must be complete chaos down in Caracas. Phone calls are not being returned, and it does not appear anyone other than [President] Maduro or the military has any decision-making ability. They are not even able to find any banks willing to act as the agent for any transactions.”
There are ways for PDVSA to make the October and November payments. Perhaps half of the $3bn is held by government-controlled entities, whose remaining managers will agree with any exchange offers suggested by PDVSA. And there is still some gold that can be sold.
When there is a default on foreign bondholders, the immediate consequences will be severe. Lee Buchheit, a sovereign debt restructuring partner at Cleary Gottlieb, the law firm, says: “Most [market] people are assuming the Venezuelans are terrified that if they default, on PDVSA or the republic, the [bondholders’ lawyers] will interrupt the flow of oil into the US. After that, they would have to find refineries [outside the US] that would be willing to take that stuff, and the refiners would have to be in a jurisdiction that would not recognise US judgments.”
One such jurisdiction could be China, but it has already lent more than $30bn to Venezuela, and over half a million barrels of oil per day are going there. It appears that China is reluctant to give any more credit to Venezuela, even against the security of more oil shipments.
Also, before the relatively heavy, or viscous, Venezuelan oil is shipped, it has to be blended with lighter oil, and that has to be imported. Once the vulture funds’ lawyers get a US judge’s injunction, making payments to get that lighter oil will be more circuitous and expensive.
Eventually the long-postponed default is almost an arithmetic certainty. If it happens under the current regime, bondholders will offer little more than a strict deal under which they are kept whole in net present value terms in exchange for some extension of principal maturities.
But with a regime change, Venezuela will be in a better position to negotiate. Then there will be an interesting shoving match among foreign bondholders. The Chinese do not intend to take a position behind anyone else. After China, about $5bn of older Venezuelan bonds, including the $4bn issue due in September 2027, require 100 per cent of the holders to agree to any change in terms. This means they are virtually “unrestructurable” under New York law. Trading between 46 and 50 cents on the dollar, or around 10 points higher than otherwise comparable Venezuelan bond issues, they have a yield to maturity over 22 per cent.
Mitu Gulati, professor at Duke University Law School, says the “Vennie 2027” owners are highly likely to eventually prevail in any negotiations. He bases his opinion in part on the outcome of with its dollar bondholders. “The Vennie27s would be a good bet as far as I am concerned. Just wait. Eventually the Venezuelans will pay in full.”
You just need a great deal of nerve, patience, and indifference to headline risk.