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Greek Deal Being Reviewed for Possible CDS Credit Event

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February 29, 2012 – Comments (11)

The International Swaps and Derivatives Association has agreed to review whether Greece's bond deal is a credit event.  Here's a Reuter's article and one from the WSJ

The review hinges on the collective action agreement added to private bondholders, but not to bonds held by the ECB.  That created a new seniority structure among holders by making the bonds held by the ECB senior to others.  According to another WSJ article, "Under the 2003 Credit Derivatives definitions published by ISDA, a change in the payment priority ranking of any obligation, causing its subordination, is one of the events in restructuring that can trigger CDS for payouts--as long as it results from a deterioration in creditworthiness."

As you probably know, the Greek debt restructuring deal was crafted to be 'voluntary' specifically to avoid triggering payments on the credit default swap (CDS) contracts.  This review puts the default swaps back in play.

The ISDA is scheduled to meet on Thursday to discuss the issue, but I didn't see any timeline for issuing a decision.

This seems like a big deal given all the debate and arm twisting that went in to getting the restructuring to be 'voluntary.'  The takeaway I got from this (and might be a little off base) it that the ISDA is in a bit of a bind - it seems tough to twist a 50+% haircut plus new bonds at a very low coupon rate that didn't apply to all bond holders as anything other than a credit event.  But, the financial and political powers have clearly been pushing to avoid having this be a credit event.  IMHO, if ISDA doesn't rule this as a credit event, CDS on sovereign debt become nearly useless - and maybe that's not a bad thing.

The more I learn about bonds, the more I discover how much more there is to learn about bonds. 

11 Comments – Post Your Own

#1) On February 29, 2012 at 8:46 PM, rd80 (98.46) wrote:

A couple more article links.

Another explanation of the credit event meeting.
http://www.cnbc.com/id/46576405/

Rundown of how CDS may not cover all the losses even if it's triggered.
http://www.cnbc.com/id/46386655

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#2) On February 29, 2012 at 10:37 PM, ETFsRule (99.94) wrote:

"If this is not decided at Thursday's talks, analysts at Credit Suisse [CS 26.82 -0.71 (-2.58%) ] and at other banks still expect the CDS to be triggered around March 9 when Greece is expected to use the collective action clauses to impose terms on all bondholders."

I wish I knew where they are getting the March 9 date from. Maybe some Greek politician spilled the beans or something.

The world economy usually doesn't fall apart on such an easily predicted date.

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#3) On March 01, 2012 at 11:01 AM, TMFAleph1 (96.43) wrote:

I wish I knew where they are getting the March 9 date from. Maybe some Greek politician spilled the beans or something.

Are you expecting the world to fall apart because of the Greek debt restructuring? I don't see why.

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#4) On March 01, 2012 at 12:10 PM, ETFsRule (99.94) wrote:

"TMFAleph1 (96.44) wrote:

I wish I knew where they are getting the March 9 date from. Maybe some Greek politician spilled the beans or something.

Are you expecting the world to fall apart because of the Greek debt restructuring? I don't see why."

Because of leverage and credit default swaps (CDS).

When you force bondholders to take a haircut of 50% or more, obviously that's a default. It's a lie to call it anything else.

Because they are unregulated, no one really knows how many CDSs exist in the world, or how many of them are directly related to Greek debt. In 2010 the total amount of CDSs was estimated at $26.3 trillion. To put that number into perspective, it is roughly equal to half of the entire world's GDP.

Maybe nothing will happen when they get triggered. Or, maybe we'll find out that Europe's entire banking system is over-leveraged, with an incredibly high exposure to Greek debt.

We'll find out in a few days.

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#5) On March 01, 2012 at 12:35 PM, rd80 (98.46) wrote:

According to articles I've read, the net CDS exposure to Greek debt is about $3.2 billion.  There's a lot more out there, but many of the players simulatneaosly hold CDS and are counterparties, so their net exposure is much less than the amount of paper they hold.

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#6) On March 01, 2012 at 6:01 PM, TMFAleph1 (96.43) wrote:

Because they are unregulated, no one really knows how many CDSs exist in the world, or how many of them are directly related to Greek debt. In 2010 the total amount of CDSs was estimated at $26.3 trillion. To put that number into perspective, it is roughly equal to half of the entire world's GDP.

Just because a product is traded in the OTC market, doesn't mean there is no data whatsoever. There are highly reliable figures for the total notional value of outstanding Greek CDS:

DTCC Trading Information & Warehouse Reports

The net exposure is trivial -- less than $5 billion. There is zero risk that the world comes to an end as a result of Greek sovereign CDS being triggered.

For more on this topic:

How gross and net CDS notionals really work, FT Alphaville

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#7) On March 01, 2012 at 6:48 PM, TheDumbMoney (44.25) wrote:

My thoughts:

1) this is a credit event;

2) the original decision was bad, and created tons of uncertainty;

3) the REAL fear was that under Basil III, sovereign debt was supposed to be counted as risk-free. So how can you have risk-free debt on which there is also a credit event!?!?! (...belatedly said the Eurocrats, long after the CDS market had been created.).  This would in their view have dramatically undermined the capital positions of all of Europe's stupid banks, which are leveraged to the hilt anyway, and which are counting on their sovereign bonds as "risk free" income-generating assets;

4) After that decision, the ECB finally decided to do what it should have done at least six months if not a year earlier, which is..., act like a f^cking central bank.  Because what the Fed did was apparently unpalatable to the ECB and its Weimar-fearing Teutonic handlers, the ECB instead (finally) acted by providing three-year loans to the European banks;

5) So maybe now the powers-that-be have decided that these insignificant CDS triggerings are not that bad after all, and maybe it might be a good idea to respect a few private contracts!

[Please keep in mind I am a non-expert, and it is always possible that I have no clue what I'm talking about.]

Ponies and butterflies,

DTAF

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#8) On March 01, 2012 at 9:27 PM, rd80 (98.46) wrote:

Saw that the ISDA made a 'no credit event' decision today. 

And that many in the market believe the CDS will be triggered, most likely cause will be enough holdouts among the bond holders that the restructure won't be considered voluntary.

 

The net exposure is trivial -- less than $5 billion. There is zero risk that the world comes to an end as a result of Greek sovereign CDS being triggered.

Yep.  But it could get interesting if there are any counterparties out there that aren't hedged and can't make good on their contracts.

  

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#9) On March 02, 2012 at 9:39 AM, ETFsRule (99.94) wrote:

"The net exposure is trivial -- less than $5 billion. "

I'm not seeing the "net" figures on the DTCC site. If that number is an estimate, then we need to take it with a grain of salt.

Now, if net exposure to Greek CDSs is only $5 billion, then how is that supposed to be an effective hedge against the debt itself? We are talking about hundreds of billion of dollars here.

The largest banks seem to be ok, so far, after "sharing the pain". But that is no guarantee that smaller banks will be able to survive. What is going to happen when Greek banks have to mark down their Greek debt by 75%?

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#10) On March 03, 2012 at 4:12 PM, TMFAleph1 (96.43) wrote:

What is going to happen when Greek banks have to mark down their Greek debt by 75%?

The Greek banking system will be recapitalized using public funds:

S&P affirms 4 Greek banks ratings, Mar. 2

As for other European banks, they have already written down their inventory of Greek sovereign bonds to reflect the terms of the restructuring:

European banks take Greek hit after deal, Feb. 23

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#11) On March 20, 2012 at 1:47 PM, TMFAleph1 (96.43) wrote:

Net notional outstanding is not $3.2bn, FT Alphaville, Mar. 16

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