Playing Venezuela’s bond game takes nerves of steel

Shuli Ren, Bloomberg

It’s been eight years since Venezuela stopped paying its debt. But traders are making a wager that the ouster of Nicolas Maduro will deliver windfalls to holders of the country’s $59 billion of bonds. Notes due in 2027 jumped as much as 29% this week, putting them back to where they were before the 2017 default.

The sharp price moves reflect investor optimism of a debt restructuring — not on the table till recently because of ongoing US sanctions that began during President Donald Trump’s first term. Recovery rates can also be decent, since Venezuela has the world’s largest proven crude oil reserves. Some commentators are seeing an energy super-cycle, and that crude will sooner or later join the rally of industrial metals such as uranium and copper, given the chronic underinvestment it shares with the others.

Despite its underground riches, however, Venezuela is not for the impatient or faint-hearted. Unless asset managers believe they are as tenacious as the legendary hedge fund manager Paul Singer, it’s better that they stay away. The billionaire has over the years relentlessly sued developing nations for sovereign debt repayments, including famously Argentina.

Dollar bond investors are Venezuela’s biggest creditors, data from Citi Research shows. The government and state-owned oil company Petroleos de Venezuela SA owe about $169 billion of external debt, including $59 billion unsecured notes outstanding and $43 billion past due interest payments. This pegs the country’s debt-to-GDP ratio at 173%, or roughly twice as much as the average 86% for sovereign states that have gone through meaningful debt cleanups. As a result, if Venezuela follows a similar exercise, its international creditors collectively will almost inevitably have to accept a 50% haircut.

But recovery rates can vary greatly, depending on who you are. Are creditors truly pari passu, a Latin word meaning “on equal footing” and used in finance to describe when creditors are treated equally? It was made famous by Singer’s legal tussle with Argentina, after the country defaulted in 2001. NML Capital, a unit of Elliott Management subsequently sued for enforcement of the pari passu clause with a novel argument that Argentina can’t service new bonds without paying the old first. Elliott won the case but the entire process spanned 15 years.

It’s not hard to envision a scenario unfolding in Venezuela where lenders turn on each other and a select few profit from the mayhem. Asset managers close to the White House can easily jump the line and get better payouts at the expense of others, discarding pari passu along the way.

For instance, a consortium of existing American bondholders can agree to provide immediate working capital loans to Venezuela’s beleaguered oil industry — which would be music to Trump’s ears — on the condition that they exchange their notes at par. Getting hold of Venezuelan resources has been made easier as the Trump administration plans to control its future oil sales and hold the proceeds in US accounts indefinitely.

So what can those left holding the bag do, including Chinese creditors and European emerging-markets specialists? If they lack Elliott’s grit, they might as well take profit now. The 9.25% note due in 2027 has already priced in an immediate debt restructuring and recovery value of 45 cents, according to Barclays.

Meanwhile, Elliott continues to do what it’s best at, engaging in protracted litigation to extract value from distressed nations. An affiliate recently won a court-ordered auction for control of the parent company of US oil refiner Citgo Petroleum Corp., Venezuela’s most valuable foreign asset, moving the case closer to conclusion after eight years of legal actions.

Investing in distressed credit is hard work, requiring perseverance and tolerance for a lot of setbacks. Some buyers of Venezuela’s debt are probably getting ahead of themselves.

Courtesy Bloomberg/Shuli Ren