Venezuela’s $3bn bond shock

| Oct. 13, 2011 | Caracas, Venezuela

Published by Financial Times

Venezuela’s latest offering of $3bn of bonds has shocked the market and and confirmed suspicions that Hugo Chávez intends to spend whatever he deems necessary to win next October’s presidential elections. The offering pushes total issuance this year to $15.2bn — $7.2bn from the republic and $8bn from state oil firm PDVSA.

“This exceeds the total government issuance in the international market from the rest of Latin America combined,” noted Alejandro Arreaza and Alejandro Grisanti of Barclays Capital in New York in a recent report.

They added: "It is hard to explain why Venezuela has issued these bonds at a time when conditions in the international market have deteriorated, increasing the yields demanded by the market and forcing the government to issue at a discount… Overall, we think that this operation confirms that the government is planning a large increase in public expenditures in the next 12 months ahead of the presidential election, and in order to do so, it seems willing to issue as much as possible. In that sense, this may be an attempt to distribute the supply coming to the international market evenly over a period of time and leave additional capacity in the local financial system for the months to come."

The bonds are to be sold to local investors, paying in local currency at 4.3 BsF to the dollar. Maturing in 2026 and with a coupon of 11.75 per cent the bonds are issued with a 5 per cent discount. Fitch has assigned the bond a rating of B+, in line the country’s sovereign debt rating. According to the ratings agency, this is underpinned by Venezuela’s positive record of servicing debt even under political and economic stress in recent years.

Domestic investors are keen on the bonds as tight currency controls make bringing dollars into Venezuela extremely difficult. This has ultimately led to the formation of a black market currency trade whereby foreigners — in need of local cash — swap their hard currencies for nearly double the official rate of 4.3 BsF to the USD with wealthy locals keen to convert their local currencies to the stronger and more stable foreign ones.

According to Boris Segura of Nomura, 19 per cent of the country’s bank assets are in government debt – a historical low, he says. “Banks have space to take on additional government debt, but I guess the government would like to stuff them with local currency debt.” Domestic credit in Venezuela has been falling in real terms since the middle of 2008 and has only just begun to pick up. “In the end, the government is likely to stuff the banking system with its bonds and also force it to extend credit to ‘priority’ sectors,” adds Segura.

While news that Chávez is ramping up spending as elections loom in 12 months is nothing new, the latest issuance has shocked the markets and investors are now concerned about a potential PDVSA mega-bond issue before the end of the year, pushing the country’s issuance up even further. With his recent chemotherapy as a theatric backdrop to the elections, the maverick president will be spending on social programs that he hopes will persuade an electorate already disappointed by electricity outages, high inflation and an infrastructure that is falling apart to vote in his favour.