Editor's Note: This research note was written by Hedgeye Energy Policy analyst Joe McMonigle on Saturday morning.
After President Trump recognized National Assembly President Juan Guiado on Wednesday as the legitimate President of Venezuela, the administration has turned its focus on what it believes is Maduro’s only remaining hold on power – cash.
The Administration has begun urging allies around the world not only to recognize Guaido but also to freeze financial assets and choke off revenues to the Maduro regime.
Evidence of this effort emerged Friday as Bloomberg reported that the Bank of England had denied Maduro’s request to withdraw its $1.2 billion in gold assets out of the central bank.
The Bank of England decision is just the start. We believe oil markets and investors should view the Administration’s actions with regard to Venezuela as a serious effort and impending catalyst.
The Treasury Department on Friday said in a statement the US recognition of Guaido as Venezuela’s legitimate President meant that “the United States will use its economic and diplomatic tools to ensure that commercial transactions by the Venezuelan Government, including those involving its state-owned enterprises and international reserves, are consistent with this recognition.”
There is no other way to read this Treasury Department statement than a defacto ban of oil revenue to the Maduro regime. We expect the implementation of this new policy will become clearer in the days ahead. For now, the message is: don’t do business with Maduro; instead do business with Guaido.
Senator Marco Rubio (R-Florida), a key architect of the US plan being implemented by the Administration, suggested in a tweet on Thursday how this should work: “I hope they [US gulf refiners buying Venezuela crude] will begin working with administration of President Guaido & cut off illegitimate Maduro regime.”
Rubio cited Valero Energy (VLO) and Chevron (CVX) but all gulf refiners of Venezuelan crude, including PDVSA-owned CITGO, will soon find themselves in a tough position.
Indeed the US government would like to try to steer revenues to the new Guaido government’s account but requiring this of refiners is a defacto ban on oil imports as long as Maduro controls state-owned PDVSA. Also, as a practical matter, is it unlikely Maduro/PDVSA will sell to US refiners if it does not receive immediate payment.
We think it’s also possible that refiners may conclude the legal exposure and other risks are too great to continue buying from PDVSA under current circumstances.
Venezuela exports today are about 1.1 million barrels per day (b/d). Nearly 700,000 b/d go to China and Russia to pay off loans and other debts; the rest is exported to the US for cash. Therefore the US is the ATM machine for the Maduro regime.
The Administration’s plan focuses on cutting off cash from Maduro in order to separate him from the military, and that is why the White House has reluctantly approved decisions that will be bad for US refiners and will likely raise oil prices in an already tight heavy crude oil market.
However, the Administration also thinks these headwinds will be temporary and result in a new democratic government that quickly restores Venezuelan production to pre-Maduro levels of around 2.5 million b/d. If successful, it would add another 1.5 million b/d of new supply to global markets. A change in Venezuela may end up being bearish for oil prices.
The Administration’s publicly stated goal is to restore democracy and free elections in Venezuela. But unless Maduro has an overnight conversion from dictator to democrat, the practical goal involves removing Maduro from power and likely Venezuela.
On Friday, Secretary of State Pompeo announced the appointment of Elliott Abrams to lead the US effort on Venezuela. Abrams is Latin America expert and experienced diplomat having held former state department and national security posts in the Reagan and George W. Bush (43) administrations. In the Reagan Administration, Abrams advocated a military intervention in Panama to remove then-President Manuel Noreiga, a recommendation that Reagan rejected but President George H. W. Bush (41) accepted.
We only mention Abram’s military advocacy in Panama because President Trump has publicly and privately said a military option was on the table with regard to Venezuela and has compared it to the Panama situation. He was walked back from this idea by Generals Mattis, Kelly and McMaster but they're gone. They have been replaced by Venezuela hawks – Bolton, Pompeo and now Abrams.
There is also a potentially dangerous Saturday showdown looming over Maduro’s ordered deadline for US diplomats to leave Venezuela. The Administration has rebuffed Maduro by saying US diplomats have been invited to stay by Venezuela’s legitimate President Guaido. Since then, Maduro’s regime has threatened to cut off water and electricity from the embassy compound in Caracas. It’s unclear if Maduro will order the Venezuela military to surround the embassy or forcibly expel US diplomats. If so, it could be Maduro’s last order as it may lead to a military conflict with the US. As the Caracas Chronicles tweeted this week, “Venezuela's generals aren't dumb, they understood the prospect of a real military confrontation with the Americans would be a disaster.”
Secretary Pompeo said Friday that “there’s no higher priority” for him and President Trump than the safety of US diplomats in Venezuela adding for emphasis that “we have discussed it at some length.” Pompeo answered a reporter’s question by saying “we will make sure that we protect our folks on the ground and take all appropriate measures to ensure that they’re protected.”