A good summary of where the fraud in Greece currently stands by ATB analysts. Not designed for advice purposes, just some more context:
Nov. 2, 2011 Eurozone Debt Update
Last week’s Eurozone agreement to deal with sovereign debt problems contained three main items:
Private holders of Greek debt will roll over their holdings but in doing so accept a 50% writedown to their nominal or face value; this essentially represents a default with a 50% recovery rate
European banks will be required by their regulators to raise their capital levels by about 106 billion Euros. They are to do this by increasing retained earnings rather than by deleveraging or selling assets.
The 440 billion Euro value of the European Financial Stability Facility (EFSF) will be “leveraged” into 1 trillion Euros worth of protection by using it to provide first-loss protection on new debt, and by engaging private capital to participate in the fund.
Writedowns In return for the writedown of their bonds’ nominal value, private investors receive the assurance of ongoing Euro-area aid for Greece. Without this, a Greek default could easily wipe out 90% of more of the bonds’ value and this part of the agreement brings more certainty to the situation for private investors.
Approximately 200 billion Euros worth of Greek government bonds are held by private investors, which excludes holdings by the European Central Bank and any other governments. The writedown will therefore eliminate about 100 billion of value – which coincidentally is the amount of additional capital European banks will be required to raise.
Greece benefits from the agreement because the haircut instantly reduces the Greek government’s interest payments by half, but still allows it to continue borrowing from Euro-area governments until the austerity measures eventually bring its government budget into balance. In contrast, a complete default would completely eliminate Greece’s interest payments but would also completely preclude any further borrowing from private investors or other Euro-area governments.
Because Greece still runs a primary deficit (i.e. the Greek budget is in deficit notwithstanding the effect of interest payments), even after a default it would have to undertake austerity measures which would be more severe than the gradual adjustments it’s enacting under the current program. Essentially, lending from other governments allows Greece to get its fiscal house in order at a more measured pace and with less immediate economic pain than were the credit tap turned off instantly.
EFSF Leveraging The use of the EFSF to provide first-loss protection (“credit enhancement”) can hypothetically magnify the fund’s effectiveness. For example, if a country’s creditworthiness is suspect and it is generally believed its bonds can lose 20% of their value in a default, then by guaranteeing the 20% first-losses of the country, the EFSF largely transforms the country’s bonds into risk-free bonds. It thereby lowers the interest rate for the entire issue, which in turn lowers the chance of default and the likelihood that the monies providing the guarantee will ever be drawn. In this manner, the EFSF can protect bond issues worth many times more than its own asset base.
But this ability to “lever up” the EFSF’s protective capacity diminishes as the prospective default losses grow. Loss rates for sovereign defaults historically average about 50%-70%.
Moreover, it’s not clear that the first-loss guarantees represent anything new: the EFSF was never meant to repay that part of a country’s debt it could repay by itself, but only the part it could not (i.e. the losses). The only difference arising from last week’s agreement is the intent to explicitly guarantee against first losses in advance rather than after the fact, in the hope that borrowing rates can hopefully be kept lower. But because the EFSF’s existence and mandate is well-known by bond investors, it is likely that the guarantee against losses is already reflected in bond yields.
Details about the private sector contributing in some manner to the EFSF are very sparse. But since the EFSF’s purpose is to provide funding for governments that cannot borrow of their own accord, it seems unlikely that private investors will be eager to lend to those governments through the EFSF channel when they are unwilling to do so directly.
New Financial Commitments Conspicuously absent from the agreement was any commitment by the respective governments to raise additional monies. The agreement by private sector holders of Greek debt to accept a 50% writedown rather than “roll the dice” helps remove some uncertainty from the overall equation, but no new resources came to the table. For practical purposes, very little changed.
Even the modest debt-writedown proposals are not assured, since Greece’s Prime Minister made a surprise announcement this week that the proposal would be put to a referendum. With yields on Spanish and Italian debt rising again and some concerns about France also swirling, the potential cost to bail out an ever-growing list of Eurozone countries would fall on an ever-shrinking list of creditworthy borrowers, particularly Germany.
MF Global Bankruptcy The Eurozone sovereign debt crisis claimed its first (and possibly last) North American victim as MF Global, a commodities and derivatives brokerage, filed for bankruptcy this Monday. MF has approximately $41 billion of assets against only $1.3 billion of equity, leverage of about 97%. The company was ultimately undone by a $6 billion trade in Italian and Spanish sovereign bonds that prompted a credit-downgrade of the firm, which quickly led to the bankruptcy filing
MF allegedly comingled its own accounts with those of its clients, which is strictly prohibited by regulators. It remains to be seen whether all client monies, which were to be segregated from the firm’s trading business, will be recovered.
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