The Greek deal, fixed…..

Comments on the Greek Deal. Courtesy Copper at BGC.

One of the 17 Eurozone countries has now defaulted (whatever the politicians and policymakers say)

E152bn of Greek law bonds were tendered for the debt swap, out of E177bn – a participation rate of 85.8%.  Athens has triggered the Collective Action clause to force participation for the rest, therefore all the E177bn will be exchanged.  Of the foreign law bonds, E20bn was tendered for the debt swap, a 69% participation rate.  To try and persuade these holdouts to follow the herd and participate too, the Greek government has extended the deadline for acceptance (just for these foreign law bonds) until 23^rd March.   So the E177bn of Greek law bonds and the E20bn of foreign law bonds equates to a total of E197bn of bonds being swapped, or 95.7% of the total bonds outstanding.  That meets the debt write down targets of the IMF and EU.

So What next?  The Greek Finance Minister is holding a press conference at 1pm Athens time (11am London), so expect a few smiles, although tempered by the fact this is just one small step along a very long and difficult road which is still likely to end in a car crash.   Euro Finance Ministers are holding a conference call at 11.30pm London time and German Finance Minister Wolfgang Schauble is holding a press conference afterwards at 1pm London time.  At the same time, the International Swaps and Derivatives Association’s “Determination Committee” is to meet at 1pm this afternoon to determine whether the use of the CACs constitutes a “credit event”, thereby triggering pay outs on the net $3.2bn of CDS.  The Greek CDS market has seen little trading for the past few days but is pricing in that the CDS will payout – the Greek CDS price has tripled since the CACs were inserted into Greek law in Mid February. Using the CAC forced participation – this is not a voluntary deal – a credit event has occurred, I cannot see how the ISDA can rule in any other way (and neither can the market) even if the Francois Baroin, the French Finance Minister disagrees:  “It’s good news, it’s a good success. It’s something that allows us to stay on a voluntary basis that avoids the risk of default.”

The new 30 year Greek bonds that investors will exchange old bonds into are already being quoted in the “grey, when issued” market.  The indicative price is around 15-20% yield.  This tells us that investors think that Greece is still a high risk investment, that it will need more bailout money, it still does not have a sustainable level of debt and that Greece may default again in the future,.  Now these are very indicative prices at the moment, but they do not inspire confidence and suggest that the 2042 bonds will prove as damaging to investors wealth as the old Greek bonds.  In fact a 15-20% yield suggests that the price of the new thirty year bond will collapse when it is issued, so investors that have already taken 70% plus losses on the old bonds, will straight away take capital losses on their holdings of the new bonds.  So in fact investors will face losses of more like 80-90%.  This is a lesson for all holders of Euro sovereign debt.

The treatment of Greece has set a precedent for any other indebted Eurozone country.  A debt swap deal like this can happen elsewhere, no matter what the ECB’s Mario Draghi says of the Special Case of Greece.  So given that Eurozone nations are no longer risk free,  what is happening to the borrowing costs of the troubled Euro countries?

Take a look at the chart below which shows the yields on ten year government bonds for Ireland (in white), Italy (in orange), Portugal (in yellow) and Spain (in red).  The first thing to notice is that Italian ten year yields are back to 4.7% – last seen in June 2011 – the Mario Monti effect.  Irish borrowing costs have also fallen dramatically from 15% in July to 6.7% currently.  But the story is the opposite for the Iberian countries, with Portuguese yields rising from 9.5% in September to 13% now and Spanish yields starting to increase as the country’s debt position worsens.

The Greek debt write off is a significant milestone in this crisis.  Market players have been predicting a Greek default for years and yet politicians refused to believe it.  What this shows is that Economics will eventually win out over Politics.   It has also established a precedent for massive debt restructuring, and established that the ecb will be treated as a senior creditor (it swapped its bonds for protected non cac bonds in advance of the debt swap deal).  For any holders of Euro zone sovereign debt, these facts must be reflected in the pricing of the risk of lending to Euro zone countries. Even given the enthusiasm for super Mario Monti, I do not therefore understand how Italian borrowing costs can be down at nine month lows.  The debt swap and the ECB’s established seniority have considerably increased the credit risk for holders of indebted Euro country bonds.

Christine Lagarde, Head of the IMF, speaking last night, ahead of this deal:

“They still haven’t built this firewall that many people ask them to build. Let’s assume, for a second … the Greek deal that is currently in play doesn’t work out. Let’s assume for a second that this debt swap is a failure …The Europeans have to stop the contagion because then there is–there would be a risk that what happens in Greece, you know, percolates nicely to more risky territories because they’re much bigger in terms of amount.”

And this is the issue – this is not about Greece a country of 12million people, this is about the impact the treatment of Greece has on the rest of Europe.  And this is not good – time has been bought, but at a very large price.  A lot of European political goodwill has been used up in the last few months.  When Portugal or Spain needs financial help or concessions in the future, German politicians will take a tougher stance having gone through the negotiations with Greece.  Investor goodwill has also been used up, banks pensions funds, insurance companies and other investors have taken massive losses on Greece in the promise that this deal will stabilize the country and it will get IMF and EU help. This is likely to be too optimistic.  By saving the one country that is in too much of a mess to be saved, the policymakers threaten their ability to save the countries that could be saved in the future.   Political and investors goodwill (and money)  has been used up in Greece – a country that many think is still facing a massive black hole even after the “biggest sovereign restructuring” ever.

Stefanos Manos, Former Greek Minister: “Greece faces fewer interest payments. We got a reprieve. Whether it is good for Europe I have my doubts.”  Given the definition of reprieve – ppostponement or cancellation of a punishment or temporary relief – I couldn’t agree more.

Congratulations to Broker Gary and the Repo desk here at BGC with their winning effort in naming the four films quoted in last night’s comment.  In order the films were My Big Fat Greek Wedding, Grease,  Zorba the Greek and Get Him to the Greek.

Looking to the future, best to brush up on Portuguese or Spanish films…..