Monday, 25 July 2011 11:35

Greece Is Fulfilling Our Predictions Of Default Precisely As Predicted This Time Last Year Featured

greek debt restructuring spreadsheet

It appears as if the EU politicking behind the bailout bonanza didn't yield everything they had hoped. I still believe they are going about this the wrong way, but they are obviously not paying close attention to my opinions - or are they? CNBC reports Moody's: Greek Default Is Almost Certain. Here's Why. It's nothing you haven't heard on BoomBustBlog before, but here's the synopsis...

Ratings agency Moody's cut Greece's sovereign debt by three notches on Monday to Ca, just one notch above default, saying the new bailout set a negative precedent for creditors of other debt-burdened countries.

For some reason, the EU leaders don't see this as adding to potential contagion, but I, Moody's and Fitch appear to differ. Since when do we agree? Why should any formally profligate state tighten its belt properly and risk the requisite political backlash when these bailouts are all but guaranteed to protect the German and French banks?

Euro zone leaders agreed last week to offer Greece debt relief through a new rescue package of easier loan terms, with private creditors shouldering part of the burden via a debt exchange. The downgrade means Greece now has the lowest rating of any country in the world covered by Moody's, which, like Fitch last week, said it would offer a new rating after the debt swap was completed.

Reference Multiple Botched and Mismanaged Stress Test Have Created The Makings Of A Pan-European Bank Run for my take.

"Once the distressed exchange has been completed, Moody's will reassess Greece's rating to ensure that it reflects the risk associated with the country's new credit profile, including the potential for further debt restructurings," it said. Last Friday, Fitch Ratings said Greece would be declared in restricted default due to the steps taken in the new euro zone rescue package but that new ratings of a low speculative grade would likely be assigned once the bond exchange is completed. Moody's said the combination of the announced EU support program and debt exchange proposals by major financial institutions implied that private creditors would incur hefty losses on their Greek government debt holdings.

Now the ratings agencies are getting seious and spitting the ugly truth. You see, the EU is attempting to paper over the losses with financial engineering and alternative names, but the fact of the matter is a loss, is a loss, is a loss. As excerpted from the afore-linked article:

Although the EU refuses to publish the truth, I have done so freely for blog subscribers and have available a detailed list, currently in its 3rd rendition, that explicitly walks though what will probably happen as any combination of the PIIGS group defaults.

Our most recent subscriber document explores the banking side of Greek failure - File Icon European Bank's Greece exposure, but I have put a significant amount of info into the public domain as well. If one were to even come close to marking the EU banks books to reality, market prices, or anything in between, the Lehman situation would look tame in compariosn! As excerpted from the subscriber document: File Icon The Inevitability of Another Bank Crisis

It said that while the overall package carried a number of benefits for Greece, including lower debt-servicing costs and reduced reliance on financial markets for years to come, the impact on its debt burden would be limited. The rating agency also warned that despite some debt reduction thanks to the new rescue package, the country still faced medium-term solvency challenges and significant implementation risks. 

This is EXACTLY what we said over a year ago, reference A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina. The team was even able to ascertain which path the restructuring would take well in advance, as well as anticipatng the problem that Moody's is just now articulating. See What is the Most Likely Scenario in the Greek Debt Fiasco? Restructuring Via Extension of Maturity Dates.

"The announced EU program along with the Institute of International Finance's statement implies that the probability of a distressed exchange, and hence a default, on Greek government bonds is virtually 100 percent," Moody's said.

The IIF said that the bond-exchange deal would help reduce Greece's debt pile by 13.5 billion euros, and by offering a menu of new instruments it aims to attract 90 percent investor participation in the plan.

But Moody's noted that Greece would still have a mountain of debt to service after that"(Greece's) stock of debt will still be well in excess of 100 percent of GDP for many years and it will still face very significant implementation risks to fiscal and economic reform," it said.

Hmmm, like clockwork - as excerpted from What is the Most Likely Scenario in the Greek Debt Fiasco? Restructuring Via Extension of Maturity Dates dated Wednesday, 26 May 2010 02:07...

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.

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.

  • It will lead to decline in present value of cash flows for the creditors since the average coupon rate is lower than the cost of capital (reflected by the yields on the Greek bonds). The average coupon rate for bonds maturing between 2010 and 2020 is about 4.4% while the average benchmark yield for bonds with maturities from 1-10 years is nearly 7.5%. Also, as the maturity of the debt is extended, the risk increases and so does the cost of capital.

In order to assess the effectiveness of this form of restructuring for Greek sovereign debt, we have built three scenarios in which the maturities of the Greek debt is extended. These scenarios weren’t designed to be exact predictions of the future but to represent what may happen under a variety of highly likely scenarios (a pessimistic, base and optimistic case, so to say):

  • Restructuring 1 – Under this scenario, we assumed that the creditors with debt maturing between 2010 and 2020 will exchange their existing debt securities with new debt securities having same coupon rate but double the maturity.
  • Restructuring 2 – Under this scenario, we assumed that the creditors with debt maturing between 2010 and 2020 will exchange their existing debt securities with new debt securities having half the coupon rate but double the maturity.
  • Restructuring 3 – Under this scenario, the debt maturing between 2010 and 2020 will be rolled up into one bundle and exchanged against a single, self-amortizing 20-year bond with coupon equal to average coupon rate of the converted bonds.


In all the three scenarios, we computed the total funding requirements and compared the same with funding requirements prior to restructuring. It is observed that restructuring will help in easing the immediate pressure of procuring funds to meet the huge funding requirements lined up in the next 5 years. However, it will also lead to substantial loss to creditors in the form of erosion of present value of cash flows. (Discount rate was the benchmark yields of Greek government bonds for similar maturity period).

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 spreadsheetgreek debt restructuring spreadsheetgreek debt restructuring spreadsheet

We will be running similar restructuring analysis for all of the PIIGS member that we have researched in thePan-European Sovereign Debt Crisis series.

Moody's added that while the rescue package for Greece benefited all euro zone countries by containing near-term contagion risks, the deal set a negative precedent. "The support package sets a precedent for future restructurings should the finances of another euro area sovereign become as problematic as those of Greece. The impact of Thursday's announcement for creditors of Ireland and Portugal is therefore likely to be credit-neutral," it said.

But economically, it is credit negative. Bondholders will be forced to realize significant losses on what was once held as "risk free debt" and "reserves". See the list of links below to ascertain the results of such, but first realize that those bondholders that will take said losses will not be able to collect on their CDS, of course sparking signficant litigation, and further losses.

Standard & Poor's and Fitch have downgraded Greece to CCC.

Derivatives body ISDA told Reuters on Friday that the IIF's plans for voluntary debt swaps and buybacks to help rescue Greece wouldn't trigger a "credit event" and payment of CDS contracts, limiting the fallout of any default rating. One condition for a credit event affecting CDS is that changes in the terms of debt must be binding on all holders, which ISDA said was not the case.

Then there's the obvious twists from other impetuses:

And in the End, What Does It All Mean?

LGD 100+: What's the Possibility of Certain European Banks Having a Loss Given Default Approaching 100%?

My next post on this topic will be a discussion of a technical trade set up using options (for pros/institutional subscribers) for the bank run candidate whose fundamental/forensic analysis write up I posted last week for subscribers, as well as an insiders (Asset/Liability manager department head) take on the situation for everyone. 

Professional and institutional subscribers will have access to our contributing trader’s trade setups and opinions within a week and a half. Institutional subscribers should feel free to reach out to me via Google Plus for video chat and discussion this and every Tuesday at 12 pm (please RSVP via email). If you need an invitation to Google+ and are a subscriber, simply drop me a mail and I will give you one. Feel free to follow me on:

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