A good summary. Here is how is see it playing out and an explanation of what the ECB has done.
If there was a bond with a billion outstanding and the ECB held 200 million and private investors held 800 million it would make the PSI awkward. It would be offered to everyone, but the best case scenario was 80% participation for that bond. So collective action clauses would have had to have very low thresholds (I bet the ECB owns 50% of some issues). It also was hard to make a law that forced holders to participate but excused the ECB. If Greece stopped paying on bonds, it would again be more difficult to pay some holders of a bond and not others.
So in any orderly evacuation of a sinking ship, women and children first. In this case the ECB. There should now be two bonds outstanding. One for 200 million and the other for 800 million. The ECB will own 100% of the new bond. Those bonds will have special rights and documentation. I don’t think the ECB will take an accounting gain (or loss) on the exchange. They will keep it marked “at cost”. The fact that maturity and coupon is same as original bonds makes that an easy argument. So this does nothing for Greece. Absolutely zero. The ECB may cut them a check or give them some debt relief but that would be separate. This does none of that. It may or may not have already been done (though somehow I suspect they view it as done but have actually figured out how to legally do it).
So the remaining 800 million of the original billion are all owned by private investors. Will someone challenge the legality of the swap? Can Greece really offer the swap only to the ECB? Possibly, but someone may object. The March 20th bondholders don’t need to win the ruling, they just need to delay until March 20th to see if the troika flinches and pays them out at par. So I would expect someone to challenge this swap. Especially if the ECB holds any English law bonds. There are rules for tenders, etc., specifically to ensure fair treatment. While this swap may seem innocuous someone may challenge its legality.
Assuming the swap is done then the troika will start unleashing the weaponry on this 800 million (their 200 million having been nicely barricaded).
Bondholders will be given an offer to exchange old bonds for new bonds. The terms of the new bonds and the exchange ratio will be set. It sounds like investors will have 10 days to make a decision. I would think a lot of banks immediately make public statements that they agree to the terms. They will want to be seen as showing support and getting a big participation number early. Holdouts have no incentive to say or do anything. Delay is their game plan. Expect a participation rate of 85-95% very early. The March bonds will likely have the lowest participation rate as that is the big bet. Other bonds will vary but any that were ideal as a basis package will also likely have a decent holdout percentage.
Supposedly Greece will pass a law making all the old bonds subject to collective action clauses. They have obviously decided it is legal to do this, but time and again they haven’t really done their homework. This could be another one of those cases. I would expect some holders of the March debt to challenge this law. I have no clue about the court system in Greece but have to believe someone will try to find a way to challenge a law that applies retroactively. I doubt they win but it is worth a try since the game is to delay until March 20th.
Assuming the law is in effect and the PSI deadline arrives, there are 2 possible outcomes. 100% of the holders of each and every bond agrees to the PSI. In that case the CACS aren’t used and there is NO Credit Event.
More likely there is one holder of the “default requirement” amount of bonds who holds out (I believe the amount is 10 million, but have to double-check that). So in our example 785 million of bonds agree and 15 don’t agree. Then Greece CAC’s them and they too get new bonds. This IS a Credit Event. CDS would be triggered. This seems the most likely case.
In the end every private holder will write-off 50 percent permanently and those that live in a mark to market world (fewer and fewer live in that world in Europe) probably lose another 20 points or so. CDS will be triggered and we will be told how great it was that Greece avoided a default and that it is an isolated case. All the debt banks issued with a Greek government guaranty will likely be left alone (it isn’t the real world anymore).
Is that scenario priced in?
ECB Greek Plan May Hurt Bondholders While Triggering Debt Swaps
2012-02-17 13:42:22.17 GMT
By Paul Dobson and Abigail Moses
Feb. 17 (Bloomberg) — The European Central Bank’s plan to
shield its Greek bond holdings from a restructuring may hurt
private investors while paving the way for debt insurance
contracts to be triggered.
The ECB will exchange its Greek debt for new bonds with an
identical structure and nominal value, though they’ll be exempt
from so-called collective action clauses the government is
reportedly planning. That implies senior status for the ECB over
other investors, according to UBS AG, and the use of CACs may
lead to credit-default swaps protecting $3.2 billion of Greek
bonds being tripped.
“It may appear that the ECB is receiving preferential
treatment, raising questions about whether the ECB is senior to
private-sector bondholders,” according to Chris Walker, a
foreign exchange strategist at UBS, the world’s third-biggest
currency trader. “If a coercive default does indeed eventually
take place then a CDS event seems very likely with all the
negative consequences for risk appetite that may bring.”
Government officials are separately negotiating a writedown
of the nation’s debts with private investors before a 14.5
billion-euro ($19 billion) note comes due on March 20 that risks
sending Greece into default. The yield on the nation’s benchmark
10-year bond jumped 28 basis points today to 33.67 percent as of
1:30 p.m. in London, its sixth straight day of increases.
Subordination of other bondholders behind the central bank
is a problem “not only in the case of Greek debt, but also
regarding the debt of other euro-zone nations that the ECB may
be purchasing,” London-based Walker wrote in a report. The
ECB’s plan “will likely lead to euro weakness,” he wrote.
Still, it’s “a sign of progress toward an eventual Greek debt
UBS estimates the euro will slide to $1.25 in three months
and $1.15 in one year. The shared currency strengthened 0.4
percent to $1.3187 today.
The 17-nation currency slid 4 percent during the past three
months as Europe’s debt crisis intensified, the biggest drop
after the yen among 10 developed market currencies tracked by
Bloomberg Correlation-Weighted Indexes. The yen fell 5 percent
and the dollar declined 2 percent.
Credit-default swaps are contracts that pay the buyer face
value in exchange for underlying securities or the cash
equivalent should a bond issuer fail to adhere to its debt
Greece will introduce legislation next week that may allow
CACs that force bondholders to accept debt writedowns,
Naftemporiki reported. Swaps on Greece may be trigged if the
CACs are used because all investors would be bound by a majority
agreement to accept a proposed debt restructuring.
“One of the basic principles of bond markets is you cannot
impose subordination on a particular set of bondholders,” said
Padhraic Garvey, the head of developed-market debt at ING Groep
NV in Amsterdam. “The probability of triggering CDS has
increased because the ECB has protected itself.”
ECB officials previously rejected the possibility of a
credit event triggering swaps, arguing it would encourage
traders to bet against indebted nations and worsen the crisis.
The introduction of the clauses doesn’t in itself trigger
default swaps, though using them does, according to rules of the
International Swaps & Derivatives Association. David Geen,
ISDA’s general counsel, declined further comment.
Credit events that trigger swaps can be caused by a
reduction in principal or interest, postponement or deferral of
payments, or a change in the ranking or currency of obligations.
Any of these must result from a deterioration in
creditworthiness, apply to multiple investors and be binding on
all holders. ISDA’s determinations committee rules whether
contracts can be tripped.
Default swaps insuring $10 million of Greek debt for five
years cost $6.8 million in advance and $100,000 annually,
according to CMA. That implies an 89 percent chance the
government will default in that time.
A total of 4,183 contracts insuring a net $3.2 billion of
Greek debt were outstanding as of Feb. 10, according to the
Depository Trust & Clearing Corp., which runs a central registry
for the market.
“If indeed this maneuver is intended to protect the ECB
from forced losses, then the risk of a voluntary restructuring
morphing into a coercive one has arguably increased
significantly,” UBS’s Walker wrote. “A private-sector
bondholder that has been suddenly and unexpectedly subordinated
may have a reduced incentive to continue to hold onto that
For Related News and Information:
Euro crisis monitor: CRIS <GO>
News on credit derivatives: NI CDRV
Top bond stories: TOPH
Top currency stories: TOP FX <GO>
–Editors: Paul Armstrong, Michael Shanahan
To contact the reporters on this story:
Paul Dobson in London at +44-20-7673-2041 or
Abigail Moses in London at +44-20-7673-2118 or
To contact the editors responsible for this story:
Daniel Tilles at +44-20-7673-2649 or
Paul Armstrong at +44-20-7330-7185 or