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Good morning. Welcome to your first Ethan-only newsletter; Rob is away. The Nasdaq fell into a correction yesterday, though I’ve no idea if that is meaningful or not. Maybe we’ll figure it out after a weekend off. For now, we ponder oil at $88 a barrel and check in on El Hodlador, er, Salvador.
Oil markets have taken everyone by surprise
Looking at market indicators is just fine, but sometimes a survey better captures the zeitgeist. Have a look at this poll of energy market professionals by John Kemp, a veteran analyst at Reuters. Every January since 2018, Kemp has surveyed respondents’ expectations for 2022’s average oil price. Last year, the group utterly failed to anticipate the present jump in prices, and have revised their views radically:
Kemp’s 2022 survey found the range of predictions widening radically compared to previous years, a sign that even expert heads are spinning. Since June, crude has lurched from trough to peak and back again, and is now at a seven-year high:
Oil supply has long looked a bit scant; demand expectations are what missed the mark so badly. Traders, with memories of March 2020’s oil plunge still fresh, overreacted to Omicron, hedging against a negative demand shock. But it never came, and so the price has swung 29 per cent higher since December. $100-a-barrel crude looks possible.
Supply is caught between an unhurried Opec and a meek US shale sector. Despite Joe Biden’s urging, the cartel is feeling little pressure to boost supply. Earlier this month, it pledged an additional 400,000 barrels a day. But it may miss even that cautious target. David Martin, commodities strategy head at BNP Paribas, is forecasting Opec to fall short of their own target, pointing out that spare capacity has halved in the past year.
US shale, once the wild card in oil markets, is meanwhile settling into a new regime of capital discipline. After years of full-force drilling, investors now expect shale producers to shower cash on shareholders, not plunge it into new rigs.
The change in tack was summed up well by Scott Sheffield, Pioneer Natural Resources chief executive, who spoke to the FT’s Myles McCormick at a Houston conference last month:
I think [US political officials] are smart enough to understand the contract we have with our investors — it’s important to give a good return. There’s no way that the industry is going to change overnight and start growing again.
This new attitude among shale execs like Sheffield is a shift markets have not fully digested, Martin told me:
Markets are . . . pricing as if shale oil is going to be there in the medium term. Now, shale producers are being very disciplined, so I think the market will increasingly question whether that is the right assumption to make.
Brent futures are priced for oil to gradually glide downward. We expect more surprises.
El Salvador’s bitcoin bet is not working
The job of a Latin American sovereign-debt is not done in all-caps. It’s a staid profession involving numbers and spreadsheets and slowly explaining yourself to investors and journalists.
That is, unless you’re Jaime Reusche at Moody’s. Reusche had the temerity to call a Bloomberg reporter and tell him, sensibly, that El Salvador’s debt was getting riskier because of all the bitcoin the country has been buying. Which prompted this outburst on Monday:
That is indeed Salvadoran president Nayib Bukele tweeting that his country doesn’t give a fig about a Moody’s downgrade that, in fact, happened back in July. Whether Bukele (or Investing.com’s social team) was aware of the timeline is not clear.
To recap the story so far:
June 2021 — Bukele announces at a Miami crypto convention that he will make bitcoin an official currency. Less than a week later, his promise is passed into Salvadoran law.
July — Moody’s downgrades the country’s debt from “high” to “very high” credit risk, citing risks to debt-relief talks with the IMF. IMF directors gently warn that making bitcoin official currency is “inadvisable”.
August — Anti-bitcoin protests rage in San Salvador, the country’s capital.
September — Bukele announces the state has bought the dip to the amount of 400 bitcoin, then worth about $21m. Bitcoin legal tender law comes into force.
November — Bukele plots a $1bn bitcoin bond issuance, to fund a low-tax “bitcoin city” abutting the coastal Conchagua volcano. The IMF sternly warns against the bitcoin law.
December — El Salvador buys its 1,391st bitcoin by one estimate. Purportedly this was done on Bukele’s phone.
January 2022 — Bukele meets with Turkish president Recep Tayyip Erdogan, with many expecting him to evangelise for bitcoin amid Turkey’s lira crisis.
Consequences have come quickly for El Salvador, which has all but lost access to credit. Swap markets are pricing in a 42 per cent chance of default in the next decade. A picture tells the story in miniature. Here is the yield on El Salvador’s earliest-dated bond, due January 2023, since Bukele appeared on stage in Miami:
And that’s just the 2023 bond. Even if the country somehow pays it off, it is staring down years and years of hefty debt repayments. From Reusche and his Moody’s colleagues:
Bukele’s $1bn bitcoin “volcano bond” has not yet launched, but his marketing presentation told of a 10-year bond with a 6.5 per cent coupon. $500m of investor money will be locked into bitcoin during the first five years, with profits taken over the latter five years. Half of those profits will flow back to investors. The whole ordeal is premised on bitcoin hitting $1m by 2026.
That all sounds far-fetched, but there is one piece that certainly isn’t. The bond will be sliced into $100 increments, perfect for your bitcoin bull or meme-bond ape. With El Salvador starved of capital markets access, Bukele has dreamt up a workaround. A successful $1bn capital raise, while far from guaranteed, could buy him time until the next bond is due in January 2025. He is up for re-election in 2024.
However, as interest in El Salvador’s bonds has grown, data has been drying up. A government that was once happy to talk to investors has gone mum. As Reusche told me:
Now, it seems that they’re not as responsive. We ourselves can say that our communication channels have deteriorated with the government since the downgrade.
You see a lot of the fiscal data not being as accessible as before. The ministry of finance website has become more confusing. It’s become harder to access any fiscal data. And on the central bank website, we are starting to see some data series drop off and not being maintained.
In fairness to Bukele, he didn’t promise good tidings for Salvadoran creditors. Rather, he promised bitcoin would make for cheaper remittances — which make up a quarter of the country’s gross domestic product and which the vast majority of Salvadoreans receive. The chart below shows the value of remittances through to the end of November 2021. They have boomed alongside the hot US labour market, but bitcoin’s impact since September is hard to spot:
The post-pandemic remittances windfall, while good for Salvadoreans, may have emboldened Bukele to gamble, Reusche believes. The sudden rush of liquidity could have convinced him to snub the IMF and go it alone. Remittance costs, which have been falling for a decade, don’t seem to have suddenly become much cheaper either.
What little data we do have on El Salvador’s bitcoin use comes from researchers at Chainalysis, who shared their latest figures with Unhedged. Tracking crypto trading patterns by country, Chainalysis finds that bitcoin payments under $1,000 — a proxy for remittances — jumped to $7m from $4.5m in the month after the cryptocurrency went official, but have since returned to normal:
The clearest sign of all may be the central bank itself, which publishes nearly all of the useful data on El Salvador’s economy. As Bukele doubles down on bitcoin, the central bank would have every incentive to publicise data showing the cryptocurrency driving remittances. It has not done so.
Bukele’s defenders say big changes take time. But time is running short — and creditors will hardly be feeling merciful.
One good read
Hate or love Team Transitory, you can’t understand their arguments if you aren’t reading Martin Sandbu.
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