It appears that the “voluntary” Greek bond swap might finally come to an end.
Time then to spare a thought for the derivative that drove the need to draft the damn thing so gently in the first place. Ladies and gentlemen, FT Alphaville gives you the incredible shrinking market for credit default swap contracts written on Greece!
(Courtesy of Thomson Reuters CreditViews)
This chart shows how the volume of CDS contracts on Greece has dramatically dropped off over the last year. The net notional outstanding was a mere $3.2bn as of last Friday. Participants may be backing out to take profits or losses. Or, they may not have the stomach for extreme uncertainty sports. Fair enough really. The contracts have been trading at distressed levels for a while now anyway:
The above means that buying $10m of protection on Greece today will set you back $6.7m on day one, a number fairly consistent with the losses that bondholders are expected to incur on the restructuring itself.
As the contracts haven’t experienced a credit event — due to the bond swap being “voluntary” — much philosophical debate about CDS has ensued, concerning whether they are a good hedge, etc. From an FT editorial on Monday:
It is a false concern that triggering CDS may set off market contagion. The market is too small – and perverting the course of the swaps’ rules actually carries the bigger risk, as insurance on every other country’s debt would lose all credibility. The likely motive to push for a “voluntary” writedown is a desire to punish “speculators”. Eurozone leaders should instead focus on the real dangers of PSI. This mostly concerns banks: Greek ones and the eurozone’s central bank.
On the topic of peripheral debt and the ECB, do spare a thought about what all of this means for Portugal. FT Alphaville has already discussed why S&P’s downgrade was taken rather badly by Portuguese bonds.
As far as the country’s CDS are concerned, there is also a significant focus on what goes on all the way over in Greece, as IFR’s Divyang Shah points out:
The widening of the [10-year CDS] bid/offer spreads confirms the seriousness of the move that we are seeing on both cash and CDS for Portugal as markets fear restructuring/default risks and the prospect of following down the messy path set by Greece.
Furthermore:
Even if Greece manages to avoid a March default the markets will still have to grapple with the thorny issue of an increasing risk that Portugal is still walking down the same road as Greece in needing a debt restructuring. A Greek default will only see this risk being brought forward.
He also points out that Portugal getting further help from the IMF and the ECB via the central bank’s bond-buying programme isn’t necessarily a positive since it effectively subordinates existing bond-holders to claims by the two institutions. The ECB’s Greek bonds will not be swapped, which basically means that haircuts to private holders need to be deeper in order to put Greece anywhere in the general vicinity of a sustainable debt path. Portuguese bondbuyers beware.
In terms of CDS contracts outstanding though, Portugal has already been experiencing something similar to Greece for quite awhile, as the spreads of the contracts have deteriorated:
Compare and contrast to the rising popularity of CDS on France and Germany:
A couple of years ago, if you’d said, “when Greece gets a cold, Portugal sneezes,” would anyone have had a clue what you were on about? Funny twist of fate.
Related links:
A year in sovereign paradigm shifts – FT Alphaville
Debunking Some Myths About The “Greek CDS Contagion” Threat - Zero Hedge
Greek notionals fall as CDS questions linger – IFR
The Trivial Size of the Greek Default Problem - Forbes
So, About That Insurance You Bought on Greek Debt… - WSJ MarketBeat