Thursday 8 March 2012


For whatever reason, percentage, CAC or altruistic suicide the PSI succeeds. What is the sequence of events that might follow.
1.      It is a German power game and Schauble would feel vindicated. He might even think that the success would propel him to the Chancellorship. The mighty Germany finally ruled over the bad markets. However, judging from the German record on bank bankruptcies or bailouts ….) one should be very sceptical about taking financial advice from them.
2.      New bondholders might want to hedge their 30Y interest rate risk by paying fixed on a 30Y swap. However, this assumes that Greece would not default before that again. A very unlikely event given the Greek debt dynamics and economy. Thus many would try to offload their new Greek bonds as they do not have a mandate for 30Y Greek credit risk and hedging it would be very expensive. Greek banks would find it very hard to hedge as this requires 30Y swaplines. Thus they will keep it in their books and amortise their losses for of the old Greek bonds. Overall, however, we might see some hedging driving the long end higher.

3.      Now many holders of the old Greek bonds had them as an Asset swap. In other words they were paying the fixed coupon and receiving floating. Now that the bonds would disappear they face the choice of either keeping the swap (if they are allowed) or closing it with a loss. If they do close them then we should see a steepening of the curve, first from receiving the 5-10y sector and then paying the 30y to hedge the new Greek bonds.
4.      Markets would rejoice the success for a couple of days even with if the CDS is triggered. They are sick and tired of the Greek issues. They can now turn their attention to the US election, Iran, Oil price, Portugal for the next PSI and the next restructuring of Greece.
5.      In fact, a successful PSI might give the time for Northern European Banks to reduce their exposure to the rest of the peripheral market in an orderly way.
6.      Greece and many Greeks might feel relieved that their trials are over. They might even think that the bad days are over. They reduced the debt load by 100billion. Did they not? Well, 30billion would be taken back to pay the 15%, 5.6billion is the accrued interest and another 23-30 billion (more later, after Blackrock) would be needed to recapitalise Greek banks. Then another 11billion would be needed by the end of the year to pay the immunity of the ECB and further 5-8billion would be needed to pay interest in the original loans and the deficit. Overall the Debt/GDP ratio would fall according to Troika from 164% to 163% at the end of 2012. Isn’t that absolutely fab.
7.      On the bright side, the cashflow of Greece would improve as now they would only pay 2% (for the first 3Y) on 100billion and around 3.5% on the official loans.
8.      Greece should be upgraded by the rating agencies by few notches. This would reflect the better cashflow profile and the support of the EU.
9.      A fundamental rule of debt restructuring is that it should be done once and for all the debt. Otherwise you become a serial defaulter like Argentina. The PSI unfortunately fails in this respect. All that this means is that now a new restructuring is on the horizon. That of the official sector. Having demanded an 80% for the private bondholders they now can get a 50% for themselves or even less to bring the Greek debt down to manageable levels.
10.  Greece would be free to hold elections now that the job of PM Papademos is done. He would breathe a sigh of relief that in a couple of months he would not have to deal with Greek politicians any more.
11.  Greece now would not be able to redenominate their liabilities to Drachma even if they want to. The majority of the Greek debt would be under English law. This is a double edge sword. Either Greeks would do the correct and painful reforms or they would suffer even more. If they do not do them the exit door in few months from now is wide open.
Everybody is hoping for a successful PSI with or without CACs. The market might get a quick fix before it comes down again and faces reality. Nothing really has been resolved. Greece now can be dealt with behind closed doors in Brussels.