In which Greece’s grim sovereign-bank loop of ECB collateral and liquidity really starts to hit home.
Fresh signals were received from Planet ECB on Wednesday:
“I’m opposed to soft-restructuring because I don’t know what it means. Nobody knows what it means,” [Lorenzo Bini Smaghi] said during a panel discussion at a financial conference, answering a question on Greece.
Wrrrrrooooonnnnnngggg!
Restructuring = alteration of the legal terms of a bond.
Soft = alteration of the legal terms of a bond, except for face value.
Accordingly, current mooted Greek alterations = longer maturities and (less likely) reduced coupons.
Of course ECB officials know what a ‘soft’ restructuring is. You could ask a dozen or so non-western governments, who have executed variations on the theme in the last two decades, what it means. Ask the IMF what it means. The Fund was around for quite a few of those debt crises.
What the ECB actually means is that they don’t know how even a soft restructuring would affect banks in the eurozone.
Well, irony time! We’re in fact getting a better technical picture of the required alterations all the time, precisely because they’ll have to be designed around the capital and funding risk of those banks who hold Greek paper on their books. Specifically, they need to induce banks to take these risks — and a hit to the net present value of their bonds — voluntarily.
It’s been assumed so far that banks (and other sensitive holders, like insurers) will just roll maturities over the 2012-2013 period in which Greece will have no money. It’ll just be easier for accounting or banks will take a political cue not to make a fuss.
This is not guaranteed though, so it’s interesting to see that Nomura analysts Dimitris Drakopoulos and Nick Firoozye were talking credit enhancements for the ‘new’ Greek bonds, and ways to make holders drop old bonds, on Wednesday. It’s not their base case (the rollover scenario is) but it highlights how detailed the discussion is now.
Here’s their comprehensive list:
1. Incentives in new bonds (ranked by decreasing order of likelihood):
a. Enhance the legal structure (i.e., make new bonds English law bonds, insert Collective Action Clauses, and waive sovereign immunity, de facto seniority to old bonds). Effectively offer bonds that will offer better legal protection to debt holders in case of future restructurings.
b. Credit guarantees/collateral ... While creating bonds that are effectively senior to GGBs, this is not a CDS trigger. The easiest and cheapest credit enhancement would involve extending a guarantee from the pool of available EFSF guarantees to a new, partly-guaranteed GGB. This is not possible at this juncture. Instead the EFSF could theoretically issue a 10Y zero-coupon bond and loan the money to Greece to buy this same bond, which can in turn be used as part of a debt-exchange. While [not] formal EU guarantees [of] GGBs (with the Article 125 implications), it is economically the same.
c. Make new bonds legally (de jure) senior to old bonds. This would trigger CDS in the context of this specific restructuring.
d. Make the transaction positive NPV which would generally only be possible if some form of credit enhancements (previously mentioned) are also included.
2. Disincentives on holdouts (ranked by decreasing order of likelihood):
a. Threatening possible haircuts together with a guarantee that some portion of the restructured principal would be immune to any future action. Given that EU rhetoric has demarcated mid-2013 as a key date after which restructurings could become more aggressive, this threat may not affect pre-mid-2013 bondholders (around €77bn of bonds), effectively making this a toothless threat to the very front-end.
b. Change to ECB eligibility or haircuts for repo financing could coerce banks to switch out of old bonds. But getting the ECB, who are in general resistant to restructuring, to agree to this appears unlikely. In recent statements Nout Wellink indicated an openness to debt extensions, although this may veer from any official ECB view.
c. Other disincentives: removal of gross-up clauses, insertion of calls, or other poison pills in old bonds. These may be considered coercive enough for CDS to be triggered (e.g., ANGIRI subordinated debt restructuring). And, delisting / loss of liquidity is a usual ploy in sovereign restructurings, but possibly ineffective except for Pensions, many of which have listing requirements for AUM.
For starters, the references to CDS triggers are interesting if you’ve followed this particular debate on Greece. But let’s focus on the ECB subtext.
Making old bonds ineligible for central open market operations is a familiar trick — Uruguay used it in 2003 for instance. You’d need a cooperative ECB to do it for Greece. You’d also need the Bank for a regime that solves the problems of posting new bonds as collateral, actually. Back to Nomura:
ECB repo: Banks reliant on the ECB for their financing of GGBs will be subject to MTM risk, since the ECB only finances the market-value of the instruments subject to a relatively large haircut. This could mean that new market values result in short-term financing needs. Greece is relying less on the ECB over time, although at approximately €86bn in March, this is still a large number. As we have no real information over the nature of the Facility for Bank Restructuring (the ECB’s new institutional replacement to the somewhat ad hoc Emergency Loan Assistance-ELA programme offered by the NCBs…), it may be feasible to financing without full MTM but this is as yet completely unknown. Without ongoing liquidity assistance, any large-scale restructuring will be challenging.
So you see, there’s a cost to the ECB playing dumb.
Full note in the usual place.
Related links:
Row within Europe over Greece – FT
To avoid Greek restructuring losses – an accounting loophole for banks – FT Alphaville
A (hard) Greek restructuring by the numbers – FT Alphaville