Latin American Herald Tribune - Nomura on Venezuela: Increasing Optionality of Sudden Political Transition
Nomura on Venezuela: “Increasing Optionality of Sudden Political Transition”
By Carlos Camacho
CARACAS -- Tear gas is thick in the air right now in Caracas. But, according to leading securities firm Nomura, change is also in the air for the oil rich nation.
As the embattled administration of Nicolas Maduro faces the third straight week of street protests, which have so far resulted in at least 29 dead, Nomura sent a note to clients warning them on “the increasing optionality of a sudden political transition” in Venezuela.
“We review the market implications of a regime change. The latent possibility for a sudden transition would benefit the longer tenors (2023-2035) on the perception that economic reform allows for higher recovery value as the re-requisite for any debt restructuring negotiations,” Nomura stated in a note written by Siobhan Morden, managing director and head of Latin America Fixed Income Strategy at that firm.
The transition, when and if it happens, could entail “domestic shock from social unrest” and/or “external shock from US sanctions,” according to Nomura.
The relationship between Venezuela and the US (the largest market for oil, Venezuela’s main export) is as contentious as it is tangled: Both the Trump Administration and the Organization of American States have told Maduro to allow free elections and release political prisoners. Two members of the First Family (nephews of Maduro and the First Lady, who raised them) have been convicted of drug trafficking in New York and are awaiting sentence. And only weeks ago, Maduro’s Vice President Tareck El Aissami was designated a drug “kingpin” by the U.S. Treasury Department, the highest serving official ever to make that list.
Nomura writes to clients regarding the possibility of a transition in Venezuela: “On the increasing optionality of a sudden political transition, we need to reassess the market reaction. We refer to a sudden political transition on the higher optionality of a domestic shock from social unrest or an external shock from U.S. sanctions as opposed to a potentially slower political transition post debt default. The context of a potential political transition will clearly dictate how the market reacts with an intra-Chavismo regime change a relatively non-event compared to an opposition regime change. Do you buy or sell on an opposition regime change? This is not the straightforward question from the previous coup attempts when a sudden break from Chavismo translated into a knee-jerk rally back in April 2002. There has been a marked deterioration in liquidity and solvency indicators over the past 15 years with the opposition regime change necessary for improving solvency indicators but yet an uncertain reaction function on the willingness to pay near term.”
Nomura notes that it has been increasingly difficult for Maduro to refinance Venezuela’s mammoth foreign debt, estimated to be around $140 billion, and makes a particular mention of National Assembly opposition lawmakers warning financial market players about the illegality of debt dealings that bypass the country’s legislative, as Maduro has been sidestepping the opposition-held Assembly for certain financial dealing.
“We cannot ignore the recent efforts to discourage access to external capital (open published letters to international banks citing reputational risk on supporting gold swap) while opposition leaders also openly criticize the strategy of prioritizing external debt payments over imports. This may just reflect the political strategy to force a political transition; however it also questions whether the opposition would have the same Chavista commitment on the willingness to pay. Is this a contradiction to the friendly and voluntary restructuring terms from their economic guidelines published from the legislature last year? Or perhaps it reflects the economic reality that the current tradeoff is unsustainable with a marked deterioration in solvency and liquidity indicators after successive years of chronic balance of payment deficits that have decreased the stock of USD assets (FX reserves) and increased the stock of USD liabilities ICSID claims, unpaid dividends to joint ventures, arrears to suppliers, China loans, FX claims for imports),” reads the note.
In any event, bondholders can expect to receive what Nomura calls “a haircut” -- some sort of burden-sharing with the new government if and when it does come.
“We would argue that economic reform is a pre-requisite for restructuring negotiations. The main problem is not external indebtedness but rather the economic trap of policy mismanagement and corruption with debt repudiation insufficient to balance the external deficit and restore a favorable growth/inflation tradeoff. It is premature to discuss the potential restructuring details through a fluid political and economic crisis,” according to the securities firm.
How big a "haircut"? It is too soon to tell.
“There are a wide range of options including the best case scenario of a maturity extension (similar to the Uruguay 2003 voluntary/coercive debt restructuring) or a worst case scenario of an explicit haircut on capital. We assume an initial conservative worst case scenario at a 50% haircut on capital since Venezuela would rely upon external capital to finance the economic transition. This would discourage against punitive terms and inward isolation similar to Argentina in 2001. It would also be politically difficult to demand a hefty haircut on capital considering that import dependence and capital flight are worse structural USD liabilities than external debt,” says Nomura.
But new management would be the real upside, both to bondholders and Venezuelans alike.
“The more important determinant for recovery value is the “exit yield” of exiting the economic mismanagement of the Bolivarian revolution,” concludes the note.
