Venezuelan crisis is an opportunity for foreign bond investors Marcus Turner Jones examines whether Venezuelan foreign bonds are an investment worth making Issues in South America rarely make mainstream news headlines, so you’d be forgiven for not having heard about the crisis currently facing Venezuela. The country has been beset with problem after problem, with the last few months having seen violent food riots, record inflation, a two-day working week, and rolling power blackouts lasting for hours at a time. It is no exaggeration to state that the country is in the midst of one of the most severe economic crises in global history. Yet in one area, it stands oddly defiant: meeting its debt repayments. Despite its underfunded hospitals lacking antibiotics, and its people starving in the streets, it has remained dutiful to its obligations, making payments on billions of dollars’ worth of foreign-currency bonds. With a growing number of overseas investors reaping the rewards of outsized returns, we take a closer look at the opportunities this oil-rich nation provides… Commitment in the face of a crisis When news of the dire straits that Venezuela found itself in first hit, many analysts logically predicted that this would lead to it defaulting on its international debt obligations. Yet its disciplined commitment to making repayments defied such assumptions, and soon contributed to a shock rally in the value of Venezuelan bonds. Exploring this phenomenon, market economist Guillermo Mondino commented that: “Venezuela has taken an extreme approach to servicing its debt and avoiding default. Very few countries have gone to similar lengths. Perhaps only Romania under Ceaușescu in the 1980s.” Whilst morally questionable on the part of the country’s government, such action nonetheless poses opportunities for the savvy investor. Value in Venezuelan bonds In July, the Bank of America’s Merrill Lynch noted that there was ‘value’ in many Venezuelan bonds. Lynch attributed this to the dramatic rebound in oil prices, which raised the value for benchmark debt due in 2027 from February’s record low of 33 cents to 46 cents. Brent crude, in particular, reached an eight-month high during this period. These factors mean that although Venezuelan debt continues to trade at distressed levels, confidence in higher recovery rates remain. Admittedly, this may require debt restructuring, yet the cost of insuring the paper against default has also dropped, which is a further promising sign. A controversial decision Despite this, many of the country’s citizens have been highly critical of the way in which the government has handled its economic crisis. And with good reason. A bond works in a similar way to borrowing money from a bank, and although not repaying your debts is unadvisable, the decision to prioritise foreign lenders despite a chronic lack of basic necessities has left those who are suffering bewildered. It may benefit opportunist investors, yet it is hard to see how it can be viewed as morally justifiable by those in power. In the words of one of the afflicted, Luisa Martínez, such action has been a grave mistake on the part of the socialist government. As she emotively explained: “If they pay that debt first, when are they going to bring food? Their priority should be food so the people do not die of hunger.” The country will continue to meet its repayments Shockingly, considering the economic crisis it is currently facing, Venezuela is in fact sitting on a gold mine, in the form of the world’s largest crude reserves. Relying on hydrocarbons for almost the entirety of its export revenues, however, it has been crippled by chronic mismanagement and dwindling oil values. It is due to this economic crisis that many investors feared they would not be paid back in full. When inflation soared, and the economy contracted, the prices of short-dated bonds dropped to new lows as a result. Yet despite this lack of confidence, President Maduro has remained steadfastly adamant that the country will continue to meet its debt repayments. Indeed, in an attempt to preserve the hard currency required to achieve such a feat, he announced plans to reduce imports by almost 50 per cent in 2016. However, some experts believe that such an approach is not entirely attributable to personal preference on the part of President Maduro’s government. According to specialist lawyers, this course may in fact be necessitated by the legal structure underpinning sovereign debt. An impossible position One of the main problems that faces President Maduro’s government is that defaulting could have a devastating impact on the country. Argentina provides a prime example of what might happen, with creditors potentially being empowered to seize state assets like Citgo Petroleum Corporation. If such an attempt were made, a prolonged legal battle would likely ensue. This would cut off Venezuela’s access to the financial markets, leaving them in an impossible position. Unfortunately for Venezuela, most of its bonds, like Argentina’s before, lack any ‘collective action clauses’ to help them out. If these did exist, creditors could be bound to accept a restructuring deal agreed by the majority, but as it stands, the government has no such power. In all likelihood, an attempt to come to terms has probably already been made, with many speculating that this was the purpose of Rodolfo Marco Torres’ meeting with investment houses in September 2015. Despite this, no deal was announced by the former minister of economy and finance after these talks, suggesting that no solution was reached. One remaining course of action would be for the government to offer an exchange, but experts suggest that they have no leverage to entice investors into accepting. As one creditor states: “Who would want to swap when the country so obviously wants to pay?” Opportunities for investors This surprise commitment to meeting its debt repayments has made Venezuelan bonds an exceptionally lucrative investment for those who bought when prices were low, and confidence had been rocked. According to Claudia Calich, a fund manager: “So far, it’s a miracle they’ve paid. If they continue paying, it will be one of the top performers. If not, it will be the worst.” It will not be long before the path the country takes is revealed to us, for its next payments, of over $4 billion, are due in October and November of this year. These will provide a further test of Venezuela’s solvency, and prove to the world once and for all whether its commitment to making repayments will remain steadfast. As Max Wolman, an investment manager, explains: “Venezuela now has some breathing space before the next payments are due in the autumn. If oil prices keep rising between now and then, who knows? Perhaps it will surprise us all.” With the countdown growing ever shorter, it will be mere weeks before the answer is revealed to us all. In the meantime, it is down to you to decide whether or not Venezuelan foreign bonds are an investment worth making. Choose wisely, and your fortunes could soar.