A securities fraud case in Connecticut has opened a window into how Petroleos de Venezuela SA’s pension fund apparently speculates in Venezuelan currency transactions — a business that is illegal in Venezuela. The U.S. Securities and Exchange Commission has interrupted the scheme, along with some allegedly improper private equity investments, in a way that may end up making PDVSA into a major investor in a U.S. nuclear power company.
Updated: Changed fifth paragraph to say that Illarramendi’s registration status with the SEC may have been OK.
The case, Securities & Exchange Commission v. Illarramendi et al, has been underway in Connecticut since Jan. 14, with barely a peep from the English-language press. Noticias Candela had part of the story as long ago as Jan. 19. El Mundo wrote an unsympathetic profile of the accused, as did Venepiramides. The U.S. press reprinted the SEC press release from Jan. 28 (sometimes rewriting a little), and local press in South Carolina and Oregon have covered some of the companies wrapped up in the situation. But nobody has pulled it all together.
So here’s the story: According to the SEC’s complaint, Short Term Liquidity Fund I Ltd., an unregistered hedge fund, had about $540 million, 90 percent of it from PDVSA pension money.
Short Term Liquidity Fund I’s directors, Octavio Calvo, Ronald G. Percival and Odo G. Habeck, are all established Latin America bond players. The fund was managed and administered by Michael Kenwood Capital Management, where former Credit Suisse banker Francisco Illarramendi, along with Percival and Habeck, were principals, according to a prospectus filed in the case.
The SEC complaint says “Illaramendi is not registered with the Commission in any capacity.” This may have been OK — I spoke to an SEC official who made it clear he wasn’t charged with being an unregistered investment adviser. A lot of advisers don’t need to register, the official said. Michael Kenwood lawyers Thomas D. Goldberg and Adam J. Reinhart didn’t immediately return calls for comment. Illaramendi doesn’t currently have a lawyer listed on the court docket. Illaramendi’s former lawyer, Seth Stratton, didn’t immediately return a call for comment.
It sounds like the PDVSA pension fund didn’t have strict standards for its investment advisers. El Mundo, the Caracas business daily, quoted oil union leaders in Caracas who said the pension fund is still the same black box as it was when Hugo Chavez criticized it in his first presidential campaign, in 1998. Here’s the article at the union website. PDVSA Insurance lawyers Jerome S. Fortinsky and Lindi Beaudreault didn’t immediately return calls for comment. A communications official at PDVSA headquarters in Caracas didn’t immediately return a call.
The prospectus outlines the fund’s goals:
its primary investment strategy seeks to take advantage of products offered in the global fixed income and derivatives markets to generate gains through short-term (under one year) investments in sovereign securities, particularly those subject to currency arbitrage opportunities in their country of issuance, due to a particular country’s exchange rate policy. The Fund may, from time to time, also invest in G-20 government securities and derivatives referencing such securities, as well as selected short-term instruments issued by international financial institutions and other business entities.
In addition, the Fund may, from time to time, take a transactional approach to the trading of fixed income securities, by taking advantage of inefficiencies in the currency markets of the securities in which it invests to generate arbitrage gains.
(My emphasis.) Allow me to translate:
We are going to run a currency exchange house for Venezuelan bolivars. We’re allowed to buy U.S. treasuries. But if you ever see us do so, please shoot us.
As site pal Otto might say, “Ponche crema served, the end.”
I realize this I am interpreting, but I’m not the only person who thinks that’s what the prospectus meant. The SEC talked with two individual investors in the fund, and one “stated that his understanding was that his funds would be used solely for short term currency transactions involving Venezuelan bonds.”
Venezuela currency transactions are a field that Illarramendi knows well. Industry sources say he invented the permuta market back in 2003. That is, he was the one who told the government how it could, on the one hand, peg the bolivar exchange rate to the dollar, while also giving the rich and importers an escape valve. While most people muddled along with the benefits and hassles of currency controls, the rich would be able to get additional foreign currency for imports (or capital flight) by buying bonds in bolivars and selling them in dollars. His bio, from the prospectus:
Mr. Illarramendi is one of the founding members of Highview Point Partners, LLC, which was formed in June 2005 and acts as the investment manager of an emerging markets fixed income hedge fund…he was a Director in the Emerging Markets Coverage Group of CSFB from 1994 until May 2004, when he left the firm to accept a temporary position as Senior Advisor to PDV USA, Inc., the international financial advisory arm of Petróleos de Venezuela, S.A. (“PDVSA”), where he served as a special financial advisor to PDVSA and its worldwide affiliates in connection with its ongoing restructuring of operations and its liability management program until February 2005…Mr. Illarramendi was a leading member of the teams that helped restructure both Argentina’s and Venezuela’s debt profiles…”
Now, running a bolivar-dollar exchange house from the USA (and from some offshore accounts in Panama and the Caymans) is tricky. I talked to a banker, who said that his first concern would be that wiring all those dollars around, one could run afoul of U.S. money laundering laws. Second, you end up with a whole heap of bolivars in your Venezuelan bank account — and you can only eat so many arepas. What happened to the bolivars? The SEC doesn’t say.
My guess is that the bolivars go back into the PDVSA pension fund, where they can be converted to dollars at the official rate. And the dollars sold for bolivars at the black-market rate, and the bolivars converted to dollars at the official rate. And so on, and so on, and so on. Please note: this is speculation. I have no way of knowing whether this was happening. If it was, it was another “financial centrifuge,” spinning off profits for the funds (and reducing Venezuela’s supply of hard currency) every time money was run through it. It’s a nice idea — and it would have complied with the pension’s duty to its pensioners, if not to the rest of the pueblo. In any case, I have no idea if it was happening.
What’s not speculation is that the transactions continued long after May. That was the month when Venezuela banned currency swaps (law in Spanish here), shut down all the exchange houses and threw bankers in jail for having done swaps even back when they were legal. The fund owed customers dollars as recently as last month, according to this memo from the fund’s lawyers, which the SEC filed in court.
…STLF [the hedge fund] has been conducting two Venezuelan currency transactions….STLF purchased bolivars from non-U.S. participants at an agreed exchange rate, to be paid in dollars at this point in the transaction….MKG [the fund manager] has stated that bolivar providers need to be paid, in no small part to assure that they will be willing to participate in future transactions requiring bolivars. From STLF’s perspective, these are pure foreign-exchange transactions.
It says that about $15 million in dollars need to be paid out, and a $5 million loan between funds needs to be repaid. So at least $15 million in bolivar-dollar “pure foreign-exchange transactions” — with Venezuelans — for the benefit of PDVSA?
Well, this may all be newsworthy — in Venezuela. Currency exchange isn’t restricted in the U.S, unless there was some sort of money laundering. Which has not been alleged.
In any case, the SEC says it detected a fraud. It’s pretty funny, really — one of their issues is that the funds were NOT being used for currency swaps, in violation of the fund prospectus. Over the course of 2010, people with access to the fund — including Illarramendi, or someone forging his signature — started wiring money out and buying stock in various small, start-up companies. The SEC says that the stock wasn’t put into the Short Term Liquidity Fund I, but rather into separate entities controlled by Illarramendi.
Now, it’s possible that this can all be explained in some other ways. And frankly, a hedge fund using its funds for investments not described in the prospectus? Zzzzzzzzzzzzzzz. Misappropriation of funds? Yes, interesting, and nobody should steal $53 million, but the evidence is pretty fuzzy. PDVSA said it knew the fund was making private equity investments. It’s quite possible that the funds could have made investors whole when the time came. For me, the juicy parts are elsewhere. First of all, why didn’t he register as an investment advisor? Second, how does PDVSA end up giving a half-billion dollars to someone who doesn’t have that most basic qualification? Third, what is PDVSA’s pension fund doing speculating on the bolivar, when Venezuelan law explicitly bans any currency exchange outside of the Central Bank system?
And now, there’s the legal but Fox News-ready post-script that has unfolded since the SEC started poking its nose around.
The SEC won a court order Jan. 28 freezing funds controlled by Illarramendi or Michael Kenwood Capital Management LLC. That meant that they couldn’t come through with cash that they had promised to startup companies as private equity investments. One of these was Golden, Colorado-based Proterra Inc. GreenvilleOnline.com, the news website for the South Carolina city that houses Proterra’s manufacturing plant, covered the story Feb. 10:
Proterra executives said they were counting on getting another $8 million from a Connecticut investment company…
After learning it wouldn’t be getting another $8 million from MK Energy and Infrastructure, Proterra scrambled to negotiate with PDVSA, and the Venezuelan company agreed to provide Proterra with a $5 million loan, which “should enable us to catch up,” Granato said….
Gottschalk said PDVSA has been “completely supportive and rational” in all of its dealings with Proterra.
“There’s no suggestion that there’s any desire or request or demand that the money that’s been put into Proterra be somehow disgorged,” Gottschalk said. “Everybody is treating this as the investment’s been made and now we just need to act rationally to figure out how to deal with the mess that’s been created.”
Gottschalk and Granato didn’t immediately return calls for comment.
The mess was even bigger at NuScale Power Inc., a Corvallis, Oregon-based developer of small nuclear reactors. Michael Kenwood Group’s lawyer wrote to the SEC Jan. 4 to say that NuScale needed $5 million in January and $5 million in February to make payroll. The judge in the case has allowed the funds to provide NuScale some money — but nothing like $10 million. The Corvallis Gazette-Times reported Feb. 3 that the company would receive $1.1 million.
Although welcome, the additional money won’t be enough to bring back any of the 30 workers furloughed early this week by NuScale or reverse any of the other austerity measures the company has taken to weather its financial crisis.
“It only allows us to continue operating at current levels,” said Bruce Landrey, NuScale’s chief marketing officer….
The fresh influx of cash should allow NuScale to keep its doors open until March 15 as it continues to work toward submitting its novel nuclear reactor design to federal regulators for approval.
In the meantime, the company is doing the same as Proterra — it’s going to the source and seeking investment straight from PDVSA, The Oregonian reported Feb. 4.
PDVSA, Venezuela’s state-owned oil company, is in talks to loan NuScale Power $5 million to keep the Corvallis company afloat while it seeks new investment….
PDVSA had invested with the Kenwood Group, according to NuScale chief marketing officer Bruce Landrey. He said the federal judge hearing the SEC’s complaint agreed Wednesday to allow NuScale to continue using funds on hand and to receive up to $5 million from PDVSA, funneled through an existing Kenwood investment fund.
“It extends our runway so we can put together long-term financing,” Landrey said.
It will take a few days to finalize the loan, however. And Landrey said that even if NuScale receives the funds, it won’t be able to bring back its laid-off employees until it finds some long-term funding.
Landrey didn’t immediately return a phone call and text message seeking comment.
So how about that for a punchline. Regardless of the motivations for the case (The blind pursuit of justice? Politically motivated harassment of PDVSA and its pals? Who knows?), the result is clear: Venezuela, the most anti-U.S. government in South America, a vigorous proponent of a large public sector and a major oil exporter, ends up funding U.S. private sector nuclear research. Go figure!
Nice post! Excellent detail! Easy to read… I wish there were more reporters like you.
Awwwwwwww thanks — I wish there were more readers like you!
I’ve long had the totally-unsubstantiated, seat-of-the-pants sense that the big corruption in Venezuela HAD to be at the intersection of the two Big Money spheres in Venezuela: PDVSA, and bolivar arbitrage.
It stands to reason: with enough oil money, and enough access to arbitrage opportunities, the profit potential is essentially limitless.
Guess Illaramendi figured that out too.
The thing now is to fill in the blanks…
Good sleuthing work in that post. Have you tried to sell this story?
Excellent article,real investigative journalism.Its outrageuos the amount of money made on these corrupt pyramid schemes. They all have one thing un common being that in the end they all fall down!
Los Bolivares de las transacciones de FX realizadas por el fondo eran canalizados a través del Banco Occidental de Descuento (BOD): Mis fuentes me informan que esa estructura fue usada por el mismo BOD para convertir USD a Bs y cancelar créditos que el dueño había concedido a empresas relacionadas y que Sudeban había ordenado reservar.
No fue solo BOD. STLF 1 tenía cuenta en muchos bancos and I know for a fact de mucha gente que le compro dólares al fondo. Regarding the endgame for all the bolívares that they received in Venezuela, they were most probably invested in the PDVSA 2017 primary issue at a 5 Bs/$ exchange rate in October?
I met Illarramendi in the 90’s. I heard his fathe was a member of Opus Dei but Illarramendi did not show any religious behaviour at all!! At that time he was just a fatty shark.
look into the OPUS DEI connection…francisco illarramendi AND his father, are inner circle members of the OPUS DEI…as is francisco’s uncle (petzal), a carreer PDVSA executive.
Dick – The idea that all the Opus Dei are in it together is awfully similar to the same concept applied to the Jews, the Masons, you name it. While it’s likely that there are Opus Dei conspiracies out there (and Eton-Cambridge ones, for that matter), I consider it important to look for the connections that are most explicative. What, for example, got PDVSA to trust this guy with so much money, and to let him play such apparently funky games with it? I wouldn’t exclude any possibility but I doubt that it was because he and some PDVSA bigwig went to the same church.
Very nice work Setty, I agree with Quico that the Venezuelan press would benefit from such dogged investigation.
I do know that Venezuelan currency arbitrage has been in PDVSA’s playbook for quite some time now. When the service company debts started spiraling out of control in 2009 — or at least when people started paying attention to them, now they’re part of the everyday coverage of PDVSA — Eulogio del Pino offered several service companies including Halliburton the opportunity to use the currency swap trick to pay off their debts. PDVSA said it would pay them half of what they owed through a new bolivar-dollar issue, and told the companies that could turn around and resell that paper for dollars, then convert the dollars back to bolivars on the parallel market for double the amount, which would leave them whole. I know Halliburton said no, as did others, not only because of the legal implications but because of the obvious risk that the paper would be so heavily discounted that the entire operation would backfire. PDVSA was later apparently shocked when several central bank directors told them this would be questionably legal. They pulled the plug on that operation, at least as a mechanism for paying off service companies.
In a similar but slightly tangential vein, I also remember hearing that the CVG has ended up serving as a clearinghouse for dollars for municipal governments that can’t get through Cadivi because of labor disputes. Basically anyone who ever leaves a job at a municipal gov’t sues to try to get double prestaciones whether or they deserve because what the hell, your chances of losing in court are roughly nill. So if the municipality wants money to import some construction equipment or some such Cadivi will tell them no because they don’t have their labor papers in order, so they go to the CVG and pay a commission to get the discount dollars, something I would be hard pressed to believe is not happening at PDVSA too. Given your investigative acumen and the fact that I’m now tied up writing boring corporate news, you’d be the man to chase that down.
Fascinating about the Del Pino bond idea. I had heard something similar but not exactly the same. Also interesting about CVG. The U.S. dollar would seem to be the real hot item in Venezuela, well above Tampax.
I appreciate your compliments but I am not in Venezuela and nobody’s paying me to look into this stuff, so I can only do so much. At some point I’ll just blow some savings on a reporting trip but for now I’m glad to be able to help out Cadena Capriles a bit — they are doing good work on this story.
“Can you sleep at night, Pancho?”
The Francisco Illarramendi I knew years ago was a hard working, very serious guy of deep catholic conviction  and a strong moral sense. At the time he was already traveling a lot to Venezuela and became good friends with the local petty klepto-bourgeoisie (in particular with the clan that owned Banco Federal at the time and where the CS connection was made) . He struck me at the time as a rara avis in the Wall Street – ambitious as anyone else there but balanced by his faith and related traits of caritas and empathy. He was genial guy to have a conversation with – well read, as well. In one of these conversations we discussed the delight of Venezuelans at gatekeeping, bakchich and general “get rich rich” scams of many people in his country. His reply was: “I do not think people capable of doing that can genuinely sleep well at night. These people undoubtedly go through some sort of anguish and will always be persecuted by internal ghosts.”
Words to live by, innit?
: that conviction accompanied him for a long time. The girl he was in love with was divorcee and he lobbied (successfully) the Vatican to have her previous Catholic marriage annulled so that they could marry ecclesiastically.
: this guy wrote an op-ed in early 1998 in one of the local big newspapers titled _Huracan Hugo_ . The piece played to the peanut gallery that the Monsieur Chavez was a clear and present danger to all good things on Earth. Never mind that a few months later he was instrumental in assisting CSFB with Venezuelan sovereign debt issuance (for kicks: who do you think arranged to have Chavez open a baseball game at Yankee Stadium?).
Truly one of the most insightful and informative blog comments I have ever received. Thanks. Truly fascinating.
@Abulafia-What you say is very true about Pancho. I knew Pancho from when he worked for CSFB. The last time I saw him was in 2004 and he was with his wife, who was from Venezuela as I remember… Is she the girl whose previous marriage he helped to get annulled? Was her name Maria or something? Or was it some other girl I’m thinking of?
Ciertamente. La avaricia enloquece.
Well clearly we met two different guys. In 1999 Illarramendi was a complex with a hugh love for money and was working in tandem with a Costa Rican that was his boss and were selling mirrors in exchange for gold. The obese Illarramendi was instrumental in creating many schemes to enrich many reds burocrats and probably himself and the costa rican. I am sorry to doubt the connection with Banco Federal owned not by a clan but by Mr Mezerhane. May ne you menat BOD. Wasnt it shea stadium?
Picky correction: It was the Mets, Shea Stadium. Hugo said ever since he was a little kid, he was a Mets fan. The Mets did not exist then.
@ Setty: Thank you, I’m much of a lurker but in this particular case I was close to the front row and, so to speak, could peep over the shoulder of a few people.
@Carlos: correct, her name is Maria Josefina (Bernardo Madoff has her family name in his blog if you care for that).
@Miguel: By Jove, you’re right (note to self: increase my medication). Thanks for spotting this. Btw, kudos for keeping Devil’s Excrement alive all these years. That lurker comment above? Avid and regular readers of yours for years. Outstanding stuff – my current Vzlan must read blogs are yours, Quico’s and (more recently) Setty’s.
Abulafia, I would really appreciate it if you could contact me off-line. email@example.com. I need your help.
This is a very sad story, because the money used by pdvsa belongs to the pension fund of pdvsa retirees, which have no say in any investments they make. so there must be a connection between inside pdvsa people and this investors, and corruption. this only damages the fund results, which in the last 4 years have not increase the pensions of the retirees. so sad. the minister/president in the congress said they dont administer the fund, which is a lie, because the retired people dos not even know where the money is invested, they donot report anything. they ignore de association of retirees completely.
but since we have such good justice in the country there is little we can do.
regards, nestor g ramirez. retiree.
I guess you have to “imagine” most of the money is already gone…
Congratulations for your work.
When these nuclear startup companies ran out of money and then Pdvsa came to their rescue is a clear indication that the funds interests was also Pdvsa’s interest in investing in top nuclear technology which lets us speculate as you on the the ramifications and conspiracy theories that these technologies were going to endup in Iran or any other of Chavez’ friends.
As for Francisco Toro’s comments agree 100% Pdvsa and arbitrage go hand in hand and the prospectus for the Short Term Liquidity Fund I could not say it better … … generate gains through short-term (under one year) investments in sovereign securities, particularly those subject to currency arbitrage opportunities in their country of issuance, due to a particular country’s exchange rate policy… …
I went to high school with Pancho and was a personal friend. Shocked by this news.
I have known Pancho for 30 years – aquainted w/the family as well. They’re simply unbelievably ethical and decent. It is hard to believe this isn’t some sort of Chavez ploy.
Hi Jane. One never knows, but I recommend you read his confessions. He pleaded guilty to these charges. That means he is saying he committed the crimes. Chavez’s policies seem to have offered the opportunity for corruption. And it’s possible that Illarramendi was under unbearable pressure from the mysterious “early investors” in the fund, the ones who were bailed out by the PDVSA money. It’s possible that someone did, literally, hold a gun to his head and make him do this. But what’s clear is he did it. And let’s just say that no one is holding their breath for the results of investigations within Venezuela.
Hi Jane, I have known them as long as you or longer….they are a family like all families, no better no worse…and there are more than a few dark spots on his family history that I know off…… Now he will be safe in jail, free of his life of lies and deception, the victims are the ones left behind….that includes his family. You are right to say that Chavez has something in it….his government made the mistake of trusting him blindly, no auditors… excellent article by the way….horror story.
As a result of researching several companies that have now come to my attention as possible players i this mess. I am even more so convinced of my initial suspicion (s). This story isn’t half told. I trust it will soon see the light of day. Especially here in the US where it is my opinion runs deeper then has been revealed as of this readers knowledge. My researched started with a US corp. I felt was somehow doing things that may be questionable, and ended her thus far, validated my suspicions much further then I could have imagined. You know it’s a dad yet funny thing that when one takes to time to question events one more often then not finds a few rats along the way. It is to common a practice these days. Sure it’s always existed but I think it is more so the norm then it is the exception in our current business climate through out the world. Why are we allowing companies to invest our 401K savings retirement funds in start ups to start with. This is the most risky of investments regardless of the product or those claiming to have the best thing on the market? If their products and services are of value then they should seek a loan from a bank, to further their investment. Not money that others have no control over that they have saved for years to retire on, to watch it disappear as it more often then not does! It is after all better to earn a small return over many years then to earn a large return you will never realize, since the major players will have sifted off the spoils long before you and I retire. Thus each and every time leaving us to hold the bag the empty bag more often then not.These practices should be stopped entirely through out the world. They are after all why most countries today are in trouble and will remain in trouble until these practices are discontinued. From credit swaps to foreign money markets to investments in start ups of most often their close friends and co conspirators. Many of these players are just common criminals. It is never acceptable for us to simply excuse them due to their claims someone made them do it. That is surely not acceptable regardless of their claims. If one simple takes time to connect the dots, those dots lead you to this sort of crap each and every time. I’ve watched millions of US dollars be handed out to some of the largest corporations in the world, why? Why do we allow our money to be handed to companies to start with? Power Utilities, Oil Companies, Manufacturers, how is it that they should have any special treatment when most of us can’t get a small loan, they can take millions without ever having to pay it back, from the DOE and so on ! Why? When will this stop? What does it take for people to realize why we’re really in the trouble we’re in? States willing to offer tax deductions to corporations yet bleed out low wage earners even when they’ve lost everything to the sharks featured in this blog? This blog covers a story that starts many years ago in a foreign country and ends up here in SC. Making players of surely dozens of companies that will most likely not be around in a few years and neither will the money taken from their pension funds and 401K plans. It will be gone, as it seems to always go that way. The corporations will have closed the employees will have lost their jobs the politicians and their investment partners will have milked millions out for themselves long before their taken to task for their part in this mess. Leaving again us holding an empty bag. We don’t need new laws, we need the laws enforced that already exist. We need to see the end of any and all risky investments taken out of the scenario of retirement funds and 401K plans, period! We need to end the days of CEO’s earning anything more the a reasonable salary, say 5-10 million tops. Not 20-5-300 million plus! No one is that smart or that entitled no one! If we do not see the end of this sort of business we will surely only watch ourselves be pulled deeper into the pit they dig for us all! Thanks good luck and great read! KUDOS!
I have known Pancho for many years and he had always been an excellent person. I think he clearly got in bed with the wrong partner. PDVSA is not a charity, but an oil company controlled by a corrupt regime. They gave him 95% of his assets under management, and they clearly run the show. What do you do as an investment manager when effectively your only investor asks you to invest in a nuclear energy company even though that was not allowed in the prospectus? It may be technically illegal, but certainly not unethical! It’s their money, at the end of the day. By not being registered, he probably thought he would get away with it. But, those who know Pancho know that behind his big heart you will not precisely find the most organised or process-abiding individual… That’s what’s got him. Once he realised the mess he had got himself into, he then turned desperate and acted accordingly. But to this day, i deeply believe he didn’t steal a dime.