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JUNK-RATED EL SALVADOR’S ‘BITCOIN BONDS’ LOOK EXPLOSIVE (THINK VOLCANO)


JUNK-RATED EL SALVADOR’S ‘BITCOIN BONDS’ LOOK EXPLOSIVE (THINK VOLCANO)


JUNK-RATED EL SALVADOR’S ‘BITCOIN BONDS’ LOOK EXPLOSIVE (THINK VOLCANO)


ANYONE BUYING SALVADOR’S BITCOIN-BACKED BOND IS BETTING ON THE CRYPTOCURRENCY IN
A VERY BIG WAY, IGNORING THE COUNTRY’S DISTRESSED-DEBT SITUATION, ONE STRATEGIST
SAID.


ANYONE BUYING SALVADOR’S BITCOIN-BACKED BOND IS BETTING ON THE CRYPTOCURRENCY IN
A VERY BIG WAY, IGNORING THE COUNTRY’S DISTRESSED-DEBT SITUATION, ONE STRATEGIST
SAID.


ANYONE BUYING SALVADOR’S BITCOIN-BACKED BOND IS BETTING ON THE CRYPTOCURRENCY IN
A VERY BIG WAY, IGNORING THE COUNTRY’S DISTRESSED-DEBT SITUATION, ONE STRATEGIST
SAID.

By Omkar Godbole
Nov 22, 2021 at 5:45 p.m. UTC
Updated Nov 22, 2021 at 8:35 p.m. UTC


El Salvador President Nayib Bukele announces new "bitcoin bonds" at an event on
Saturday. (Samson Mow via Twitter)

While El Salvador’s new bitcoin-linked bond may be one of the highest-yielding
fixed-income instruments globally, it might turn out to be riskier than the
country’s outstanding government bonds, which are already categorized as
junk-grade.

Some experts said the new offering might struggle to attract investors,
especially because the bond appears to pay interest at a lower rate than the
country’s conventional dollar-denominated bonds.



El Salvador President Nayib Bukele announced the plans on Saturday to issue a $1
billion “Bitcoin Bond” with a 10-year maturity on the Liquid Network. Half of
the money raised will be used to purchase bitcoin, and the rest will fund
construction of a new ”Bitcoin City” along the Gulf of Fonseca near a volcano.

The bond – developed by Blockstream and processed by Bitfinex – will offer a
6.5% coupon, or the rate of annual interest payments. In addition, investors
will receive dividends generated by staggered liquidation of bitcoin holdings,
which will begin from the sixth year. The annualized yield back to investors
could reach 146% in the 10th year, according to Blockstream projections.

Compare that with the benchmark 10-year yield on El Salvador’s outstanding
government bonds, currently around 13%, according to Marc Ostwald, chief
economist and global strategist at ADM Investor Services International (ADMISI).

For further context, the U.S. 10-year Treasury, considered by many global
authorities and bond investors to have pristine creditworthiness, yields about
1.5%.


WILL THE BITCOIN PRICE GO TO $1 MILLION?

But the new El Salvador bond’s projected performance is based on Blockstream
models suggesting that bitcoin will rally to $1 million in the next five years –
an aggressive target given that the cryptocurrency is currently trading around
$58,000.

Some investors might be betting that the lockup period – wherein $500 million of
bitcoin would be out of circulation – might itself contribute to a fresh bull
run.

“Anyone buying this bitcoin-backed bond is betting on the cryptocurrency in a
very big way, ignoring the credit market currently signaling that El Salvador is
very much facing a distressed-debt situation,” Ostwald told CoinDesk in an
email.

Prices for the country’s outstanding government bonds due in 2032 traded above
110 cents on the dollar in April – well above the par value – and have been
declining ever since. Recently, they were changing hands below 75 cents on the
dollar, providing a very relevant example of just how volatile emerging-market
bonds can be.


EL SALVADOR’S BONDS CONSIDERED JUNK-GRADE

Credit-rating firms have already cast the Central American country’s bitcoin
foray as a negative.

El Salvador adopted bitcoin as legal tender in June. A month later, Moody’s
downgraded the country’s long-term, foreign-currency issuer and senior unsecured
ratings to Caa1 from B3, citing the decision to adopt bitcoin as a sign of weak
governance. Obligations rated Caa1 are judged to be junk-grade – of poor
standing and subject to very high credit risk.

Price graph of El Salvador's dollar-denominated bonds due in 2032. (Bloomberg)

The latest announcement to issue bitcoin-backed bonds may draw further ire from
rating agencies and international partners.

“I suspect that El Salvador bonds are sufficiently risky, and adding bitcoin on
top of that precludes most retail investors and more institutional investors,”
Marc Chandler, chief market strategist at Bannockburn Global Forex, told
CoinDesk in an email.

Charlie Morris, CIO of ByteTree Asset Management, said issuing bonds linked to
bitcoin could further isolate El Salvador.

“That is dangerous because if the plan goes wrong, who will save the day?”
Morris said, adding that Blockstream’s million-dollar forecast for bitcoin (BTC)
is extremely optimistic.


ARE EL SALVADOR’S BITCOIN BONDS A GIMMICK?

According to Bannockburn’s Chandler, the country’s new bitcoin bonds appear to
be a gimmick to achieve lower interest rates.

Borrowing costs tend to be higher in indebted nations with weak economic growth
such as El Salvador, Greece, Sri Lanka and Mozambique. Each of these nations
offers a double-digit yield on their benchmark 10-year bond.

However, by allocating half of the proceeds from the debt sale to bitcoin, the
El Salvador government is giving investors a share of the cryptocurrency’s
possible price upside. That might help explain why investors would be willing to
buy the country’s new bitcoin bonds at a lower yield than what they would get
from El Salvador’s conventional outstanding bonds.

According to Chandler, “the desperate attempt” could work but would require
getting lucky on bitcoin, whose intrinsic value, or lack thereof, continues to
be debated. Chandler says that other countries should follow El Salvador’s lead
but probably won’t.

“I doubt that as I doubted many corporate treasurers would buy bitcoins as Tesla
did,” he said.


WOULD IT BE LESS RISKY TO ... JUST BUY BITCOIN?

Crypto investors may also think twice before taking the gambit because they
likely already have experience buying bitcoin directly.

“While crypto enthusiasts will doubtless be buyers, the simple question is would
they rather own the underlying or be happy to take the encumbrance of a clearly
distressed sovereign debt, let alone any geological risk of ‘Bitcoin City’ being
located next to a volcano,” ADMISI’s Ostwald said. “I guess that brings a whole
new meaning to ‘explosive.’”

Laurent Kssis, a crypto exchange-traded fund expert and director of CEC Capital,
said the bitcoin-backed bonds might be a good deal for investors who are already
motivated to buy emerging market debt – government bonds of Russia, Mexico,
India, Brazil and other less-developed nations. The benchmark bonds in these
nations yield between 6% to 9%.

However, for more risk-averse crypto traders, holding bitcoin might be a better
option – as outlandish as that might sound to some investors used to lower
volatility in traditional markets.

“It is safer and may appreciate more than the bond,” Kssis said. “Bear in mind
that the bond could/may default and may be classified as junk status so many
investors may not be able to invest.”

DISCLOSURE

The leader in news and information on cryptocurrency, digital assets and the
future of money, CoinDesk is a media outlet that strives for the highest
journalistic standards and abides by a strict set of editorial policies.
CoinDesk is an independent operating subsidiary of Digital Currency Group, which
invests in cryptocurrencies and blockchain startups.

Omkar Godbole

Omkar Godbole is the senior reporter on CoinDesk's Markets team.

Follow @godbole17 on Twitter




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The leader in news and information on cryptocurrency, digital assets and the
future of money, CoinDesk is a media outlet that strives for the highest
journalistic standards and abides by a a strict set of editorial policies.
CoinDesk is an independent operating subsidiary of Digital Currency Group, which
invests in cryptocurrencies and blockchainstartups.

@2021 CoinDesk