JPMorgan, Michael Cembalest…Greece: Sisyphus revisited
To be clear, the debt exchange is a bit of a farce on its own, since even after the debt reduction shown in the table, Greece’s debt/GDP ratio is still well above 100%.
How will the ECB behave? There are no justifications I know of for the ECB to assert preferred creditor status, which would entitle it to avoid being restructured (as the IMF does). So far, however, ECB comments indicate a reluctance to participate with the private sector rabble. If the ECB is treated as a preferred creditor, does that mean that all 217 billion of its sovereign debt purchases so far should be seen as effectively senior to private investors? This issue could be solved by having the ECB sell its bonds at cost to the EU before the exchange.
Will Greece put “collective action clauses” (CAC) in place? Without getting too detailed, many Greek bonds were issued under language known as “universal consent”, which means that all creditors have to agree to changes to maturity, interest or principal. A CAC allows the issuer to obtain a plurality of support from bondholders for changes to the bond indenture, and then impose them on any holdout creditors. There’s nothing wrong with CACs, except for the fact that applying them retroactively changes the rules of the game, and makes a mockery of the quaint notion of contract law. As we explained in Appendix C in our 2012 Outlook, contract law protections for investors in sovereign debt are very weak. Don’t like retroactive CACs? Go sue in an Athens court; good luck to you.
Will credit default swaps (CDS) end up being triggered? If there are no missed payments and everyone voluntarily participates in an exchange (no matter how coercive the process, or how large the debt forgiveness), then a default even as per CDS rules has not occurred. I have no objection to adherence to contract terms; but how will this affect users of CDS contracts that assumed they could hold bonds and hedge with CDS, now that they face losses on their cash positions without their hedges paying off? From now on, investors will be incented to sell their bonds, since their hedges won’t “work” in the way they thought they would. By the way, why is the EU so intent on avoiding a trigger of CDS contracts? Could it be that some EU banks are long Greece through CDS? We may never know for sure.
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