EMERGING MARKETS RESEARCH                                                                                           16 Sep...
Barclays Capital | Venezuela: Intensive use of funds to revive the economy

Figure 1: GDP growth (%)                      ...
Barclays Capital | Venezuela: Intensive use of funds to revive the economy

Figure 3: Estimated hard currency flow (USD bn...
Barclays Capital | Venezuela: Intensive use of funds to revive the economy

    We expect USD3.0bn of new                ...
Analyst Certification(s)
I, Alejandro Grisanti, hereby certify (1) that the views expressed in this research report accura...
This publication has been prepared by Barclays Capital, the investment banking division of Barclays Bank PLC, and/or one o...
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Barclays: Venezuela Intensive use of funds to revive the economy (Sept., 16, 2010)


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  1. 1. EMERGING MARKETS RESEARCH 16 September 2010 VENEZUELA Intensive use of funds to revive the economy Although the economy contracted 1.9% y/y in Q2 10, the performance was Alejandro Grisanti better than expected, helped by increased public expenditure. Nonetheless, +1 212 412 5982 private demand remains weak, and we expect the recession to last for the rest of alejandro.grisanti@barcap.com the year, given the lagged effect from restrictions on access to foreign currency. www.barcap.com Higher public expenditure and lower oil exports, partly due to increased domestic cosumption, have diminished the public sector’s hard currency balance. While this sitution will be alleviated by the USD9.5bn loan from China, it comes at the cost of a rising trend in external debt. We expect USD3bn of new issuance from PDVSA, with USD1.0bn of this being absorbed by the central bank, and USD30mn per day from SITME over the remainder of this year (total USD2.1bn). Although Venezuelan bonds appear cheap, we maintain our market weight recommendation weighting for the official announcement. Has the storm passed? The Central Bank of Venezuela (BCV) reported a fall in GDP of 1.9% y/y during Q2, marking the fifth consecutive quarter of economic contraction. As we discussed in our report, Venezuela: Deeper recession despite increasing oil prices, 17 June 2010, the performance of the economy is being hit by several domestic factors: 1) political stress caused by an acceleration of the government’s reform agenda; 2) electricity shortages; and 3) restrictions on access to foreign currency. Nonetheless, it is important to note that the GDP contraction was significantly lower than expectations. While some have questioned the accuracy of GDP data, given that results have beaten market expectations for two consecutive quarters, it worth noting that for six of the last 10 quarters official GDP data was worse than market expectations. Therefore, we think the more valid discussion is whether the outperformance represents a reversion of growth towards the economy’s underlying potential. The production disruptions caused by problems with electricity supply are likely to diminish in the second half of the year, as the arrival of the rainy season will improve the generation capacity of the hydroelectric plants. The government is also investing in thermoelectric plants to ensure greater power generation capacity throughout the year. However, this latter program could cause another problem, given the increased demand for oil to power these plants. This factor could partly explain the decline in oil exports, considering that total exports fell 19.4% y/y in real terms in Q2 and were the prime reason for the GDP contraction. While this issue is likely to fade into the background in the near term as the hydroelectric plants supply a greater proportion of electricity, we need to wait for the next dry season to have a better idea of the actual situation of the electricity sector. PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES STARTING AFTER PAGE 4
  2. 2. Barclays Capital | Venezuela: Intensive use of funds to revive the economy Figure 1: GDP growth (%) Figure 2: Contributions to GDP growth 12.0 40% 9% 10.0 30% 6% 8.0 20% 6.0 3% 10% 4.0 0% 2.0 0% -3% 0.0 -10% -2.0 -20% -6% -4.0 -30% -9% -6.0 I-07 III-07 I-08 III-08 I-09 III-09 I-10 -8.0 1Q07 3Q07 1Q08 3Q08 1Q09 3Q09 1Q10 Public Consumption Private Consumption Investment Inventories Imports Exports Survey Actual GDP y/y% (RHS) Source: Bloomberg, Barclays Capital Source: Central Bank of Venezuela , Barclays Capital The Q2 10 GDP performance was also helped by a larger-than-expected increase in public consumption, which grew 3.1% and slowed the fall in domestic demand. Similarly, public investment also rose, reflecting the execution of infrastructure projects by the government to solve the electricity crisis. In addition, the fall in imports could have contributed to the public expenditure having a greater multiplier effect than normal. In addition, sectors such as food manufacturing and health that rely on imports of inputs have benefitted from being given larger allocations of foreign currency at the official exchange rate, which is likely to have helped their performance. Demand also seems to have come from businesses rebuilding inventories, reversing four consecutive quarters of deep falls that has resulted in scarcity problems in some basic goods. Lagged effect of new foreign Despite these pockets of resilience, we continue to forecast the overall level of economic currency restrictions will activity to contract over the rest of the year. Private demand remains weak, reflecting the restrain the recovery loss of purchasing power among consumers. In addition, we expect a lagged effect from the restrictions on access to foreign currency introduced close to the end of Q2. The impact of these restrictions is likely to be visible on imports in the current quarter, though this may have been mitigated by the recent bond issuance which we believed was intended to provide foreign currency for importers. However, these funds were channeled to the favored sectors that already receive foreign currency through CADIVI and SITME, namely food, health and capital goods. As a consequence, we expect that retailers and manufacturers in sectors not considered ’priority’ by the government will suffer supply problems that will impact on their activity levels over the rest of the year. In light of these developments, we have adjusted our GDP forecasts and now expect a contraction in GDP of 3.0% in 2010 (previously -5.4%), followed by modest growth of 2.0% in 2011 (1.6%). Where has the money come from? Increased public expenditure The increased public expenditure in Q2 was surprising considering that central government implies greater use of the figures showed a significant contraction in state spending in real terms. As such, we suspect government’s hard that most of the increase in public expenditure came from the quasi-fiscal funds (FONDEN currency reserves and Chinese Fund) on which reliable data are not readily available. In particular, we think it likely that the infrastructure projects to solve the electricity shortages were financed with funds from these areas. Even so, while the higher fiscal expenditure partially offset the 16 September 2010 2
  3. 3. Barclays Capital | Venezuela: Intensive use of funds to revive the economy Figure 3: Estimated hard currency flow (USD bn) Figure 4: Public sector hard currency position (USD bn) 2008 2009 H1-10 H2-10 2010 2011 90 Total Inflow 92.8 58.1 30.7 42.7 73.4 79.1 Net Oil Export 82.8 47.2 29.1 30.3 59.4 63.2 80 Non Oil Export 6.0 3.4 1.6 1.9 3.5 3.9 70 Chinese Fund 4.0 4.0 0.0 9.5 9.5 10.5 Others 0.0 3.4 0.0 1.0 1.0 1.5 60 Total Outflow 80.3 70.5 38.2 35.4 73.7 75.9 50 CADIVI 46.5 27.3 13.1 15.9 29.0 31.1 Debt Service 4.9 5.7 2.0 4.0 6.0 9.8 40 Non-oil Public Imports 6.4 5.3 3.1 2.0 5.2 6.0 30 PDVSA Expenditures 13.3 19.5 11.7 7.9 19.6 17.7 Nacionalizations 0.0 2.1 0.0 1.3 1.3 0.3 20 2003 2004 2005 2006 2007 2008 2009 1H10 2H10 2011 Others 9.3 10.6 8.4 4.3 12.7 11.0 Net Flow 12.5 -12.5 -7.5 7.3 -0.2 3.2 Available assets External debt* Stock* 72.6 60.2 52.5 59.9 59.9 63.1 Note: *Include International reserves, cash and debt securities. Note: * Include central government, PDVSA, Fonden and Chinese Found. Source: BCV, CADIVI, Barclays Capital Source: Ministry of Finance, PDVSA, Barclays Capital output contraction in Q2 10, this is likely to have come at the cost of an additional diminishing of the government’s hard currency resources, despite the recovery in oil prices and devaluation of the currency. Transfer of USD9.5bn from the According to the Central Bank of Venezuela (BCV), the public sector’s hard currency position Chinese government will help to (cash, debt securities and international reserves) declined a further USD7.6bn during the first rebuild the hard semester of this year, following the USD12.5bn fall in 2009. While this trend raises some currency position concerns, there may be some improvement in the coming months. First, the central government has increased its amount of local currency deposited at the central bank by approximately VEB13.7bn (USD3.2bn) since the beginning of the year, which makes us think that a larger portion of expenditure in the second half will be financed with these resources. Second, expenditure demands are likely to diminish, given the one-off nature of some spending in the first half, such as the acquisition of thermoelectric plants to solve the electricity crisis. Lastly, the government is expecting to receive USD9.5bn from the agreement reached with the Chinese government. Therefore, we expect the hard currency position of the public sector to increase by the end of this year to about USD60bn and rise in 2011 to approximately USD63bn (Figure 3). Part of this recovery, we think, will also be reflected through an increase in the international reserves, from the current USD28.4bn to USD34.5bn by the end of 2010 as the authorities arrange a ‘last- minute’ transfer, similar to their actions over the past two years. Figure 5: Public sector debt (USD bn) 2006 2007 2008 2009E 2010F 2011F Total public sector 47.0 56.4 58.4 90.7 105.9 122.5 Central Government 44.1 44.1 44.1 64.9 70.6 81.1 Internal 16.8 16.7 14.2 29.8 34.6 42.3 External 27.3 27.3 29.9 35.1 36.0 38.8 PDVSA 2.9 12.4 12.0 21.4 23.4 23.1 Chinese Fund 2.4 4.4 11.9 18.4 Source: Finance Ministry, Barclays Capital 16 September 2010 3
  4. 4. Barclays Capital | Venezuela: Intensive use of funds to revive the economy We expect USD3.0bn of new In terms of new supply to the international market, we expect a USD3.0bn issue from issuance by PDVSDA; to that, it Petroleos de Venezuela S.A (PDVSA) soon, with at least USD1.0bn being placed directly with is necessary to add the the central bank. We expect SITME to continue selling bonds at a rate of USD30mn per USD2.1bn that will come working day over the rest of this year, which implies about USD2.1bn of issuance. Adding through SITME both together and avoiding double accounting, we estimate that about USD4bn of new supply will come to the international market in 2010 and about USD10.0bn in 2011 if the SITME system is maintained. Given these circumstances, we maintain our market weight recommendation, given actual cheap valuations and a still strong capacity to repay, at least in the short to medium term, but are again worried about the technicals of this credit. Overall, despite the heavy use of its financial resources in the past 18 months, the Venezuela government retains significant reserves of hard currency with which it can meet its commitments. However, our concerns remain about the high speed at which its outstanding debt is increasing, not only through new issuance such as the expected USD3bn from PDVSA, but also resulting from cash advances from the Chinese government. We estimate that the total debt–to-GDP ratio will reach 45.1% by end-2010, up from 18.8% in 2008, after having decreased far from its level in 2003 (46.1%). Figure 6: Venezuela macroeconomic forecasts 2006 2007 2008 2009 2010F 2011F Activity Real GDP (% y/y) 10.3 8.4 4.8 -3.3 -3.0 2.0 Oil GDP (% y/y) -2.0 -4.2 2.5 -7.2 -1.2 3.2 Non-oil GDP (% y/y) 11.7 9.5 5.1 -2.0 -2.9 1.9 Consumption (% y/y) 15.6 16.1 7.0 -2.2 -2.0 2.8 Fixed capital investment (% y/y) 26.6 25.4 -3.3 -8.2 -10.0 2.0 Exports (% y/y) -4.5 -5.6 -2.7 -19.6 -9.3 1.6 Imports (% y/y) 31.1 33.6 3.8 -19.7 -11.7 5.2 GDP (USD bn) 166.2 226.2 310.7 325.7 235.1 261.1 External Sector Oil price (Brent, USD/bbl) 66.1 72.6 98.5 62.6 78.0 85.0 Current account (USD bn) 27.1 20.0 38.9 8.6 17.2 22.0 CA (% GDP) 16.3 8.9 12.5 2.6 7.3 8.4 Trade balance (USD bn) 32.9 23.7 47.0 19.2 28.1 33.6 Gross external debt (USD bn) 30.2 39.7 44.2 61.0 71.3 80.2 International reserves (USD bn) 37.4 33.5 43.0 35.0 34.5 36.3 Public sector Public sector balance (% GDP) 0.4 -2.9 -2.7 -8.2 -2.6 -3.3 Primary balance (% GDP) 2.5 -1.3 -1.2 -6.7 -1.0 -2.0 Gross public debt (% GDP)* 28.3 24.9 18.8 27.9 45.1 46.9 Net public debt (% GDP) -4.4 2.7 0.4 8.0 15.7 16.8 Prices CPI (% Dec/Dec) 17.0 22.5 30.9 25.1 29.0 27.2 Exchange rate (VEF/USD, eop) 2.2 2.2 2.2 2.2 4.3 4.3 1y ago Last 3Q10F 4Q10 1Q11 2Q11 Real GDP (y/y) -2.6 -1.9 -2.7 2.2 1.5 -0.2 Exchange rate (dom currency/USD, eop) 2.2 3.6 3.6 3.6 3.6 3.8 Note: * Includes central government, PDVSA and Chinese Fund. Source: BCV, Ministry of Finance, Ministry of Energy and Petroleum, National Statistics institute, Barclays Capital 16 September 2010 4
  5. 5. Analyst Certification(s) I, Alejandro Grisanti, hereby certify (1) that the views expressed in this research report accurately reflect my personal views about any or all of the subject securities or issuers referred to in this research report and (2) no part of my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this research report. Important Disclosures For current important disclosures regarding companies that are the subject of this research report, please send a written request to: Barclays Capital Research Compliance, 745 Seventh Avenue, 17th Floor, New York, NY 10019 or refer to https://ecommerce.barcap.com/research/cgi- bin/all/disclosuresSearch.pl or call 212-526-1072. Barclays Capital does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Barclays Capital may have a conflict of interest that could affect the objectivity of this report. Any reference to Barclays Capital includes its affiliates. Barclays Capital and/or an affiliate thereof (the "firm") regularly trades, generally deals as principal and generally provides liquidity (as market maker or otherwise) in the debt securities that are the subject of this research report (and related derivatives thereof). The firm's proprietary trading accounts may have either a long and / or short position in such securities and / or derivative instruments, which may pose a conflict with the interests of investing customers. Where permitted and subject to appropriate information barrier restrictions, the firm's fixed income research analysts regularly interact with its trading desk personnel to determine current prices of fixed income securities. The firm's fixed income research analyst(s) receive compensation based on various factors including, but not limited to, the quality of their work, the overall performance of the firm (including the profitability of the investment banking department), the profitability and revenues of the Fixed Income Division and the outstanding principal amount and trading value of, the profitability of, and the potential interest of the firms investing clients in research with respect to, the asset class covered by the analyst. To the extent that any historical pricing information was obtained from Barclays Capital trading desks, the firm makes no representation that it is accurate or complete. All levels, prices and spreads are historical and do not represent current market levels, prices or spreads, some or all of which may have changed since the publication of this document. Barclays Capital produces a variety of research products including, but not limited to, fundamental analysis, equity-linked analysis, quantitative analysis, and trade ideas. Recommendations contained in one type of research product may differ from recommendations contained in other types of research products, whether as a result of differing time horizons, methodologies, or otherwise.
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