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Why Are Greek Credit Event Swaps Still In The Mid 60s?
Via Peter Tchir of TF Market Advisors,
As we wait for more IIF announcements about the Greek Private Sector Involvement (PSI), Greek CDS remains bid above 60 points up front. For a contract that is about to be "worthless", this seems to have a lot of value.
Why would Greek CDS still be so well bid?
One answer is stubbornness and stupidity. Maybe the CDS buyers are so convinced that Greece is a mess, that they will bid up CDS in spite of all the efforts by the "authorities" to circumvent a Credit Event.
Maybe some buyers really think they are buying Credit DEFAULT Swaps, rather than the Credit EVENT swaps that they are actually buying? In spite of the name, it is not a Credit Default Swap, it is a Credit Event Swap. It is the Credit Event definitions that trigger the contract, and in spite of popular opinion, the word "voluntary" does not appear anywhere in the ISDA definitions.
Neither of those explanations seems satisfactory, although I do think the misunderstanding about what triggers a CDS may play a role. What other explanations are there?
What notional of bonds is really represented by the IIF negotiating team? Of the 200 billion or so of bonds outstanding, how many are truly represented by the IIF? When later today, or tomorrow, Dallara announces an agreement in principal, how many bonds are committed to that deal? I think there is a real risk that the amount of bonds that are actually part of this negotiation is fairly small. We may be disappointed to find out that only a fraction of potential bonds are being obligated to follow the IIF's deal. You would think after all the failing in PSI, they would have ensured that the vast majority of bonds are committed to whatever this IIF led group decides to do, but so little has been done like a "proper deal" that it wouldn't be a shock to find that the IIF and EU have overestimated how many bonds will agree to the deal they agree to.
Even if the IIF deal represents close to 100% of bonds, the CDS could still have value. In many ways, that is truly scary, but here is why the CDS could still have value.
There will be some holdouts. The deal will not receive 100% agreement (of that, I'm 100% certain). These holdouts are most likely to be "evil speculators". That will create a big issue for Greece. Will they pay these holdouts out at par? What a horrible message to send, pay holdouts at par after reducing notionals by 50% for participants. But if they don't want to pay them and reward them for holding out, it is hard to see how they can "screw" them without a default - either failure to pay or some retroactive Collective Action Clause (both of which would be a Credit Event). The Net Notional of Hellenic Republic CDS outstanding is only around 3 billion (less than 1% of the debt outstanding). After the PSI deal is done, the amount of debt would be reduced, but a default on a relatively small amount of holdout debt ($10 million I believe), would cause a Credit Event for the entire amount of CDS outstanding.
Away from the "holdout" scenario is the problem that the deal doesn't ensure Greece doesn't need to renegotiate again in the future. Remember the goal of this is to get debt to GDP to 120% by 2020!!! 120% debt to GDP ratio isn't exactly pristine, and how much can go wrong between now and 2020? The new debt would be under UK law, so it would be much harder to force another "voluntary" restructuring without triggering a Credit Event. The documentation of the new bonds will make it harder for Greece and EU to force through a similar deal in an attempt to once again circumvent triggering a Credit Event. 60 points up front seems like a lot to pay if they really are going to reduce debt dramatically, but the fact that debt will remain high and the new bond covenants will give creditors more power going forward does mean CDS isn't worthless.
There is one last thing that makes Greek CDS retain value. All of the conversations have focused on actual Greek debt. What about debt guaranteed by Greece? How much debt of weak Greek banks has Greece guaranteed? These aren't going away or being reduced and the banks they have guaranteed aren't improving anytime soon. It is hard to account for these guarantees, but they remain outstanding and if are called on and not met, would also be a Credit Event. This is a second order effect, but shouldn't be ignored since the Greek banks have been using Greek Government guarantees as a means of accessing the ECB or Greek Central Bank.
Finally, what else could be going on? One of the original 4 PSI proposals was a commitment to roll into new bonds when old bonds mature.
This is very different than an immediate exchange. If someone holds 100 million of bonds due in a year and agrees to the exchange (restructuring, haircut, default) then Greece will have reduced their debt by 50 million. If all they do is agree to exchange when their bonds become due, there is no immediate reduction in Greek debt. I fully expect they are doing an immediate exchange, but watch the fine print as nothing about these negotiations has been straightforward or made sense from a normal deal.
The NPV reduction is another element that needs to be watched closely. The NPV hit will likely be 60% to 75%, but that is irrelevant to Greece.
The Notional reduction is primarily what impacts Greece. If the debt notional is reduced from 200 billion to 100 billion, then Greece has reduced debt by 100 billion. It doesn't matter if the new bonds only have a market value of 50 billion, that is the bondholders problem and doesn't directly benefit Greece. Greek bonds already trade at 25% of par, so the secondary market discount doesn't provide a direct benefit to Greece.
So for Greece, the key is immediate exchange (rather than an exchange as bonds mature), and what the actual notional reduction is.
The interest rate is of secondary performance. In the grand scheme of things, a 3% or a 5% coupon on the new bonds doesn't make or break Greece. The coupons seem like a great savings, but the reality is that it isn't much different than the coupons Greece is currently paying. How "low" the coupon is and how helpful it is for Greece, needs to be compared to the average coupon Greece is currently paying and not to where bonds are trading in the secondary market.
What would be impressive? Immediate exchange of all Greek debt with at least a 50% notional reduction, 30 year maturity, and low coupon. Maybe we get that, but I doubt it, and it seems pretty well priced in.
Anything less is likely to disappoint the market as the realization that nothing is fixed sinks in, and that this may not even take near term "hard default" off the table (this PSI is a default no matter how it is spun even if it isn't a Credit Event).
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Credit Event Litigation?
It is way too quiet.
It is too quiet, like the EU has some sort of lock down going on. Basically they're crisis managing as it's all gone tits up. Prepare for armageddon in the form of litigation, Paris Club etc etc.
It's game over.
Big Ching's catch-phrase for 2012......................
Hallucinogenic obfuscation.
The European soveriegn CDS's will be declared null and void....
I feel sorry for any hedgefund that thinks they will be made anywhere near whole...Their contractual rights are being unfairly violated.....
Oh by the way, I was just kidding about being sorry...
As as far as contractual rights go.... you should not believe in the tooth fairy....
And I will feel sorry for everyone holding sovereign debt. Nobody will touch it anymore. You can't sell it, you can't hedge it. Good luck on future bond issues by the Eurozone.
So yeah, is the plan just to take a haircut, then go back to selling debt again and all is solved?
That is the plan.... and those buyers will get lured in by fat coupons on new issues....
Works *every* time....
And no, the problem is not solved....
Since when have we ever *solved* a problem of this magnitude?
You mean interest rates and yields through the roof. Then nobody's debt is viable. Might as well buy perpetuals instead of government crap. In the end they will just force everyone to allocate something like 30% of their total holdings into sovereign debt or something free market like that.
Sure, no problem. The only buyer will be the ECB, so who cares?
manipulation.
Sell the news?
Greece will default, it is just a matter of time really. The people who are paying for greek profligacy will soon tire of it and demand the money to stop flowing. The elites at the top had better take not of the will of the people, because revolutions have occured over less.
Well said. ZH coverage on this has been excellent, even if many can't follow all the bouncing balls.
Still, on balance, this is a classic case of too many variables. There is no satisfactory solution, so sooner or later, someone, probably the Greeks or the Germans simply says enough of this happy horse shit, and a hard default will follow.
You're spot on. Too many variables, the system is too dynamic to be able to predict any outcome with a decent degree of certainty. Default, armageddon, Euro-collapse and a few civil-wars are coming.
My conclusion of this article and others on the subject is that bondholders and Govts have BOTH reached logical contradictions in which direction finances/the future is heading. Being painted into a corner of a room where the walls are moving towards each other, along with a huge boulder rolling to the corner -- yet, the traditional solutions of printing currency or demanding concessions are all they got...WTF??
New greek rumor:
Greece is now offering Buy one Get one free deal on 30y notes.
This offer is sustainabe, but won't last, so act now!
greece will not be allowed to default. the ecb is buying their bonds. all is well. all is well.
But Greece will still default, as in we don't have a penny anymore, so there. And then the ECB will end up sitting on a pile of toilet paper.
You can actually get euro toilet paper. I believe I've seen UKIP (UK Independence Party), Nigel Farage's party members with it. You can probably buy it someplace. I imagine soon enough actual Euros will be used for toilet paper. I'll give it 18 months.
Any Greek PSI deal is flawed and will cause more problems than it solves. The moral hazard issue should not been ignored. What incentive does any remaining EU country have to endure harsh austerity instead of seeking a similar deal?
If this deal had any real hope to turn Greece around, Greece would be negotiating with the ECB on a similar haircut for their bonds.
AFAIK, you need x% of outstanding to be able to block any voluntary settlement (IMHO the Greeks bonds issued under UK law have that % at 10%, the ones issued under Greek law probably similar). So unless you can mobilize more than 10% of outstanding, any deal cut by the group of holders representing the 90%+ majority will be considered voluntary & FORCED on the remainder.
So no holdouts IMHO.
AFAIK the IIF et.al represent the 90+% majority in these negotiations, so ...
according to below, the english law bonds require two thirds or three quarters depending on dated date. the greek law ones 100%. however the former have explicit collective action clauses while the latter are silent hence are thought to be more vulnerable to an ex post facto greek legislated cram down.
http://www.zerohedge.com/news/subordination-101-walkthru-sovereign-bond-...
well worth the read.
National Bank of Greece: $1.75 to $2.75 in 8 trading days.
http://bigcharts.marketwatch.com/kaavio.Webhost/charts/big.chart?nosetti...
Some penny stock junkies just "made their year".
And if I had bet that the Colts would go 2-14, I'd be a billionaire, but what sort of dumb-ass would have made that bet?
I like your opinions, RT. There is way too much group-think here, but shit man, you can always come up with some way to make a fortune AFTER THE FACT.
"but what sort of dumb-ass would have made that bet?"
A very lucky dumb-ass.
Hey Robo - EK went up 128% from Jan 6 to Jan 11. Did you catch that wave? I hope you did...
Yeah. Bought at 2 ast year. Just sold at 195
why insist the sky is falling when it is clearly not?
A Credit Event is as likely as a Ron Paul primary victory in any state that allows the Republican Party to count the votes.
Both events, ie the "victory of truth", would spark a massive deflationary shitstorm- after the cleansing is over, everyone will feel better, but this is not to be allowed. "Plugged-up and bloated", despite massive doses of political and monetary-policy kaopectate, is not a permanent condition. It will blow, and when it does, the fan will be on at full speed.
Shoving it up the HFs, killing them softly with Greek song, killing them with the Irish blues, strumming their pain with my fingers, singing their life with my words, they heard I sang a good song...
They are trading that way because the ECB is going to be forced to monetize.
The more I think about the ludicrous nature of CDS and the fact that someone can 'insure' someone else's credit extended as debt to another someone else, the more I think it was the worst idea in the history of finance.
It was always about leverage and to a certain extent ratings arbitrage....
What ever use they may have had, they morphed into something that cannot be defended...
Oh, there are a lot of people that would argue that they were a great idea... e.g. Joe Cassano
Good call, Flak. It's all about leverage, and secondarily, the ratings arbitrage. This is a point that has been mentioned a few times but seems largely overlooked. The buyers of CDS are paying a small premium to leverage up even further. Now, it's pretty much a clusterfuck, and has been noted by numerous "experts", CDS and its derivatives are financial WMD.
The ECB... claims to be an "official" lender, when they waded into this mess on their own judgement. Not only did the ECB's purchases not benefit Greece (proceeds went to seller of the bonds). Not only is the ECB insisting on payment at par (realizing a profit as they bought far below par). The ECB's purchases reduced the amount of bonds in "private" hands, so that remaining private investors have to take higher haircuts now.
Anyway, why is the IIF running the show? I thought we had the London Club of creditors for private debt negotiations? Is this to maintain the storyline that this is not a default?
If these are debt talks among private lenders and Greece, why is the IMF demanding lower coupons? Aren't they an official lender?
Why has the IMF program ended in December 2011 when originally the 13th tranche was to be paid out in June 2013?
Great point on ECB. SMP never benefitted Greece directly. ECB clearly not a normal lender and IIF is a joke
Man. It sure do seem real trollish around ZH these days. Disconfusionism flying around like sugar in a cotton candy factory! Wut da bait...
[Not directed at anyone in particular--but you know who pays ya!]
Roll tape over the past 2 years. Every hedge fund and bank that said they had 'zero exposure' to Greek debt will have to eat losses.
If you didn't own any you would clearly state that.
Zero exposure sounds like 'we bought the bonds and the insurance'.
Ooooopsy
It's the Grecian Formula.
I'm afraid the answer is obvious: nobody imagines that CDS will be worthless.
If you buy a CDS, then you are guaranteed full payout. All you have to do is not voluntarily participate in the swap. If Greece doesn't pay you in full, that's a credit event and the CDS covers it.
So nobody is going to sell you a CDS for anything less than 100% minus weighted probability of recovery. Simple.
And actually, it's probably the original issuers on the bid, trying to cover their losses. Most CDS buyers have already cashed out.
It's my understanding that during the MGM Grand fire in Las Vegas, some gamblers had to be pulled away from their slot machines by firefighters...