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The Banks Have Volunteered (at Gunpoint) To Get 50% of Their Money Taken – No Credit Event???

Courtesy of ZeroHedge. View original post here.

Submitted by Reggie Middleton.

picsay-1319726495

So,
the European joke has come full circle. Indebted nations borrow more
money to bail out other indebted nations who ask insolvent banks to cut a
50% off deal on the loans that were given to them, but the insolvent
banks will then have to raise capital which the will of course borrow
from the over-indebted nations whom they just gave money to. Get it?
Problem solved – BTMFD!!!

The rally is
based off of bullshit and an inability to count. After the voluntary
haircut (volunteered at gunpoint, may I add), Greece will still have
roughly 120% debt to GDP ratio with a declining economy. Unsustainable still. I would fade this rally with careful stops.

I
have went over the Greek debt tragedy in detail with subscribers and
things are unfolding exactly as I had anticipated. Before we get to the
Greek default rehash, let’s peruse an email I received from one of my
many astute BoomBustBloggers.

I’m a lawyer (and investor). There is no analysis by anyone on the internet
about whether the announcement last night would in fact trigger CDS
payout. Rather, everyone seems to be accepting the claim by ISDA that
the decision would not trigger it. Because I can’t find any legal
analysis worth reading on the internet
I decided to do my own research. In about 5 minutes I found a case in
the 2nd Circuit (USA) that explained to me what’s going on with those
contracts. First of all, they are unregulated private contracts between
private parties. In order to know whether a trigger occurred you have to
read each individual contract. As a result, what the ISDA says about
whether a trigger occurred as to private contracts that are out there is
totally meaningless.

There is merit to this assertion since the ISDA contract is simply a non-binding template, often marked up to accomodate financial engineering widgets designed to increase profit margin and decrease transparency to clients and counterparties.
By the time all of the widgets are installed on some of these highly
customized deals, the original ISDA template is a non-issue.

What
seems to be the issue is whether there is considered to be “economic
coercion” going on if one of the events to trigger is “restructuring.” 

Whaaattt!!! Coercion? What Coercion???!!! robbery_gun_1

 Furthermore, you have to not look at voluntariness in a vacuum but compare the (Greek) bond with the substitute being offered by EU to determine if economic coercion or true voluntariness
exists. For example, if the EU will give priority in payment to the
substitute it is offering and not the original bond, that is the proper
analysis in determining economic coercion/voluntariness
etc. My analysis here is based upon a very brief reading of the case
and I would need time to analysis fully. Also I’m not a financial
professional I don’t understand all the implications of what the EU
announced. The reason I’m contacting you is because I believe that in
the coming days/weeks we will hear of entities that are buyers of the
CDS protection giving notice of a credit event to their counterparties to seek to collect on the CDS contract.
If payouts aren’t made lawsuits will be filed. 

You
had better believe it. I really don’t know why everybody is glazing
over this very obvious fact! Imagine if you bought protection on a bond
you acquired at par and you are offered 50% of it back (NPV) to be
considered whole while the CDS writer laughs at and says thanks for the
premiums… You’d probably break your fingers dialing your lawyer – out
of both the swap payments, the CDS payout, and 50% of your investment
that you thought (but really should have known better) was protected!

I
don’t know what a US Court will decide as to whether a trigger has
occurred but there is a 2nd circuit case (the one I mentioned above)
that is the best I’ve found to give an inkling about this… I’m telling
you all this, because if I am right and there are claims that CDS was
triggered and CDS in fact gets triggered… [it should be made] public
so people start analyzing whether CDS was in fact triggered instead of
blindly accepting the drivel out of Europe that no trigger will occur.
That claim is obviously all about perception management not necessarily
truth.

As excerpted from A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina Wednesday, 26 May 2010

The
restructuring of the Argentina debt in default was occurred in 2005
when the government offered new bonds in exchange of old securities. The
government gave the option of either accepting A) a par bond with no
haircut in the principal amount but substantially lower coupon and
longer maturity or accept B) a discount bond with a haircut in principal
amount to the extent of 66.3% but relatively better coupon rate and
shorter maturity than in case of Par bond. If the bondholder accepted
A), for each unit of bond, one unit of Par bond will be allotted. If the
bondholder accepted B), for each unit of bond, 0.33 unit of Discount
Bond will be allotted. The loss to the creditor, which is decline in the
NPV of the cash flows, was nearly the same in both cases as the lower
principal amount in Option B was offset by better coupon rate and
shorter maturity. The price of the par bond in the market and the price
of the discount bond multiplied by the exchange ratio (real price to the
bond holder) were largely the same when they were listed in the market
in 2005.

The IMF estimated the average haircut (decline in the net
present value of the bond) was on an average 75% and the market priced
in most of this haircut before the actual restructuring in Feb 2005. The
prices of the bond in default declined nearly 65% between Feb 2001 and
Feb 2005.

One should keep these figures in mind, for in the blog post “How Greece Killed Its Own Banks!I
ran through a much, much more optimistic scenario that wiped out ALL of
the equity of the big Greek banks. Remember, the Greek government
stuffed these banks to the gills with Greek bonds in order to created
the perception of a market for them. As excerpted…

Well,
the answer is…. Insolvency! The gorging on quickly to be devalued debt
was the absolutely last thing the Greek banks needed as they were
suffering from a classic run on the bank due to deposits being pulled
out at a record pace. So assuming the aforementioned drain on liquidity
from a bank run (mitigated in part or in full by support from the ECB),
imagine what happens when a very significant portion of your bond
portfolio performs as follows (please note that these numbers were drawn
before the bond market route of the 27th)…

image001image001image001

The same hypothetical leveraged positions expressed as a percentage gain or loss…

image003

Professional and Institutional level subscribers (click here to upgrade) may access the live spreadsheet behind the document by clicking here (scroll down after for full summary, spreadsheet and charts).

 greek debt restructuring spreadsheet

Greek Restructuring Scenarios

There
are several precedents of sovereign debt restructuring through maturity
extension without taking an explicit  haircut on the principal amount,
and many analysts are predicting something of a similar order for
Greece. This form of restructuring is usually followed as a preemptive
step in order to avoid a country from technically defaulting on its debt
obligation due to lack of funds available from the market. It primarily
aims to ease the liquidity pressures by deferring the immediate funding
requirements to later periods and by spreading the debt obligations
over a longer period of time. It also helps in moderating the increase
in interest expenditure due to refinancing if the rates are expected to
remain high in the near-to medium term but decline over the long term.

However, the two major negative limitations of this form of restructuring if applied to Greek sovereign debt restructuring are –

  • It
    solves only the liquidity side of the problem which means that the
    refinancing of the huge debt (expected to reach 133% of GDP by the end
    of 2010) will be spread over a longer time period while the debt itself
    will continue to remain at such high levels. The sustainability of such
    high debt level, which is growing continuously owing to the snowball
    effect and the primary deficit, is and will continue to be highly
    questionable. Greek public finances are burdened by a very large
    interest expense which is approaching 7% of GDP. The government’s
    revenues are sagging and the drastic austerity measures need to first
    bridge the huge primary deficit (which was 8.6% of GDP in 2009), before
    generating funds to cover the interest expenditure and reduce debt.

Why the Taxpaying Population of Greece Is Still Not Off the Hook, Start Looking Into Stocking Up On Their “Greece”!

Wednesday, 06 July 2011


Thus, even though the amount of funds required each year to refinance
the maturing debt will be reduced by extending maturities, the solvency
and sustainability issues surrounding Greece’s public finances, which
were the primary reasons for it’s being ostracized from the market in
the first place, will remain unanswered.

I’d like to make this perfectly clear and have absolutely no problem going on the record with it in full HD fidelity…

image002

There
has been a large amount of capital lent to (and invested in) Greece.
The collateral behind (recipient of) said capital has devalued along
with popping of the asset securitization crisis bubble to such an extent
that it is a mere fraction of what it was valued at when said capital
was invested. What does this mean? Well, it means that no matter what
financial engineering scheme you attempt to wrap around it (and I happen
to be particularly skilled at financial engineering, so I should know),
no matter what socio-political financial
nomenclature you attempt to drape it in, and not matter how far you
attempt to kick said can down the road in a “delay and pray” tactic of
pushing the inevitable collapse past your particular tenure at the helm
in an attempt to make it someone else’s problem… The only way out of
this for Greece, Portugal, Ireland and other profligate states is an old
fashioned reneging on its payback obligations. A plain vanilla default. The explicit action that unequivocally informs you in no uncertain terms – You ain’t gettin‘ your money back!

The
chart above is an obvious reason why Greece not only has an inevitable
default in its future, but why the faster they default the better off
Greece is as a whole. Reference the test case known as Iceland whose
banks default on $85 billion, from
Bloomberg:

Debt Raters Miss Iceland Rebound

The
credit rating companies that were too slow in predicting Iceland’s
economic collapse in 2008 may be underestimating the strength of its
resurrection.

Fitch Ratings said in May it may take two years for the island to shed its junk status, while Moody’s Investors Service and Standard & Poor’s give Iceland their lowest investment grades. That hasn’t
deterred investors from trying to buy twice the amount offered in last
month’s $1 billion bond sale as the island returned to global capital
markets less than three years after its banks defaulted on $85 billion
in debt.

“When you
look at how successful that auction was, it’s clear that investors are
now crunching the numbers themselves and that the credit grades from the
rating agencies are less relevant,” Valdimar Armann, an economist at Reykjavik-based asset manager Gamma, said in a July 4 interview.

Iceland’s
experience shows the rating companies may be overcompensating after
failing to identify some of the risks that led to the global financial
crisis, said Armann. While Moody’s kept a Aaa
rating on Iceland until five months before its banks collapsed,
reluctance to raise the island’s credit grade now is blocking the
country’s access to a broader investor base. Debt derivatives show the
low ratings may be unwarranted as credit default swaps on Iceland
indicate it’s less likely to default than euro member Spain.

You
see, the only true workable solution is to expunge the debt and have
the original debt investors take realize their significant and material
capital losses. As it stands now, for political reasons and to maintain
the status quo of the existing banking oligarhcy,
more debt is being piled onto these nations for the tax paying populace
to attempt (and fail) to service! Thus, severe and aggressive austerity
plans are being implemented to payback banks and other lenders (at what
can be considered usurious terms, enter the IMF), thuse
forcing recessionary pressures upon the working populace. This is a
thick and heavy shaft, one that is onerous enough to quite possibly
require grease for the citizens and denizens of Greece to consider
palatable. On the other hand, they can do the Iceland, who is already
lapping Greece in both economic growth and demand for its debt!

The situation between the 1st and 2nd Greek (and soon to be Portuguese) bailouts have essentially remained unchanged!

image018

As excerpted from It Should Be Obvious To Many That The Risk Of Defaulting Sovereign Bonds Can Spark A European Banking Crisis

If you think those charts look painful, imagine if the Maastricht
treaty was actually respected. Our models haven’t pushed passed 80%
debt to GDP, but if you were to put the treaty’s debt ceiling in you
would see the very definition of contagion. The following chart
represents the first order consequences of a 62% haircut on Greek debt…

Despite
the fact that the only way out of this is a true default and
destruction of the debt capital proffered during profligate times, TPTB
will try their best to find a workaround, because what’s best for the
people of Greece, Portugal, Ireland and as we have already seen -
Iceland, is absolute anathema to the bankers that binged on this stuff
at 40x leverage and sitting on 50% devaluations as we speak. You simply
do the math: 40 x (-50%) = what kind of returns? Insolvency, first and
foremost!

Subscription Document Archive:

File IconGreece Public Finances Projections

icon Sovereign Contagion Model – Retail (961.43 kB 2010-05-04 12:32:46)

File Icon Sovereign Contagion Model – Pro & Institutional

Online Spreadsheets (professional and institutional subscribers only)

Here
is the rub that all seem to be missing. A 50% haircut to principal is
simply not enough – and it appears as if it is by extension and not
solely principal – we don’t even know if it is to principal yet because
thus far all reports that I have come across simply referenced NPV or
extensions, which could be a combination of any number of things. As
explained above, without an explicit hit to principal, Greece will still
be in need of excess Grease, believe it.

My next post on this topic will delve into the BoomBustBlog online subscriber model “Greek Default Restructuring Scenario Analysis with Sustainable Debt/GDP Limits and Haircuts” to try and work it out…


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