While Venezuela CDS suggest the country’s default odds remain well over 90%, and its currency on the black market continues to plunge into the abyss of hyperinflation, something odd happened today: Venezuela’s government issued $5 billion in dollar debt for the first time in more than five years, selling bonds in an opaque transaction to the state bank Banco de Venezuela SA and the central bank, Reuters and Bloomberg report. What makes this “unorthodox operation” particularly strange, is that the government is effectively selling debt, and raising dollar funds from itself – it owns both the Banco de Venezuela and the central bank; it is also strange in that the transaction, according to Reuters, does not immediately bring in new funds for the cash-strapped OPEC nation.
State-run Banco de Venezuela bought the dollar-denominated notes issued on December 29, which had a 6.5% coupon and mature in 2036, in local currency at a heavily subsidized exchange rate of 10 bolivars per dollar, according to a Reuters source, meaning there was no net increase in hard currency for state coffers. The country’s exchange control system sells dollars at 10 bolivars for preferential goods such as food and medicine and for 672 bolivars for other items. Dollars on the black market currently fetch close to 3,200 bolivars.
Ever since Venezuela’s economy entered into a hyperinflationary tailspin over two years ago, Maduro’s government has struggled to borrow abroad because of investor concern that the country could default, sending its market-determined yields soaring and its default odds at almost 100%, which has made borrowing exceptionally expensive.
As a result, the dollar-strapped nation – struggling under triple-digit inflation, Soviet-style product shortages and low oil prices – has been forced over the past several years to reduce imports of essential items including food and medicine to stay current on its foreign debt obligations. As Bloomberg notes, In October, state oil company Petroleos de Venezuela executed a debt swap in which creditors holding $2.8 billion of bonds agreed to extend maturities after weeks of tense negotiations that included what was effectively an ultimatum from Caracas of a financial collapse should creditors hold out.
Maduro says his government is the victim of an international financial blockade and blames the country’s problems on an “economic war” led by political adversaries. He says talk of default is a smear campaign against him.
But back to Venezuela’s “mysterious” new bond issuance, about which Bloomberg admits that “few details are known” and which might be linked to Chinese lending, according to Francisco Rodriguez, the chief economist at Torino Capital in New York.
“My guess – but it’s just a guess – is that given uncertainty as to whether Venezuela would be able to deliver the oil necessary for repayment, the Chinese may have asked for the loan to be also guaranteed with a bond,” he told Bloomberg by email, adding that he had been expecting a disbursement of $5 billion related to the renewal of a loan from China.
Reuters adds some additional color, noting that Venezuela’s first sovereign issue since 2011 was underwritten by China’s Haitong Securities, according to two bond traders who had seen preliminary details of the issue. The country, meanwhile, kept the transaction under wraps: an official at the Finance Ministry, which coordinates the country’s sovereign bond issues and oversees Banco de Venezuela, said there was no one available to comment.
Adding to the mystery, a central bank official told Reuters she had seen “no evidence of the operation taking place.”
So will Venezuela see new funds emerge as a result of this deal? It appears that the answer is yes, if Banco de Venezuela were to sell the notes on the international market, though the total issue would only fetch around $2 billion due to the heavy discounts on Venezuela bonds. Currently, Venezuela’s dollar-denominated 2038 bond issue prices near 43 percent of face value, according to Thomson Reuters data.
Meanwhile, bond traders are just as confused as reporters and analysts: Russ Dallen, a managing partner at Caracas Capital, told Bloomberg that “bond markets will likely react with “befuddlement” when they open back up on Tuesday after being closed on Monday for the New Year’s holiday.
“Taking place on Dec. 29 with no approval by the National Assembly and no promulgation notice in the Official Gazette, this smells of some kind of end of the year financial shenanigan from a government that is out of cash and is desperately trying to hide it,” he said in an e-mailed response to questions.
Which is why China’s involvement is hardly surprising: recall that the last time Venezuela arranged a direct loan from China was in March of 2015, when a similar number of $5 billion was also floated. This time it appears that both Caracas and Beijing decided to be even more opaque in how China funds its vassal oil provider, with what likely amounts to nothing more than vendor financing – China funds Venezuela by helping it to issue a few billion in debt, meanwhile it collects tens of billions in crude oil pre-sold at a price that is particularly beneficial to China.
With that assumption in place, we look forward to learning the details of just how China is now funding insolvent supplier sovereigns by the back door, and where else besides Venezuela is this arrangement in place.
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