Eurozone Leaders Agree a Few Rescue Details, Like 50% Haircut on Greek Bonds; Plan to Develop a Plan Gooses Markets

When failure is too painful to contemplate, any halting motion in something resembling the right direction will be hailed as success.

Eurozone leaders had a session well into the night and announced a sketchy deal that dealt with one major stumbling block, which was getting a deep enough “voluntary” haircut on Greek debt. Government officials regarded it as key that any debt restructuring be voluntary, since no one wanted to trigger payouts on credit default swaps written on Greek debt (a default or forced restructuring would be deemed a credit event and allow CDS holders to cash in their insurance policies, and that could trigger a bigger rout). The banks were unwilling to accept the 60% haircut sought by the Eurocrats, but agreed to a 50% reduction.

The only other seemingly new developments were a commitment by the ECB to “maintain” its bond buying program and confirmation that the various bailouts would be funded by the gimmick of leveraging the EFSF to a much larger size.The Financial Times said that Merkel and Sarkozy said the amount could not be calculated now, but analysts estimated that it would be bigger than €1 trillion, while Bloomberg reported €1.4 trillion. Banks are also required to increase their capital levels to 9% or face the prospect of unpleasant government-assisted recapitalization.

But the whole thing was remarkably slapdash, with lots to be sorted out. The Financial Times account gives a sense of the considerable number of details that needed to be worked through:

Although the details of the deal as outlined by both European leaders and the Institute of International Finance remained vague, officials said that €30bn of the €130bn in the government bail-out money would go to so-called “sweeteners” for a future bond-swap, which would be completed by January.

Some €35bn in such “credit enhancements” were included in the original July deal with the IIF, an association of global financial institutions. In that deal, the money was used to back new triple-A bonds that would be traded in for debtholders’ current bonds.

Whether the new programme would be organised in a similar fashion remained unclear. Such factors as the interest rates and maturities for new bonds are critical to determining how valuable the swap will be for private investors

Charles Dallara, the IIF managing director…said …his consortium would need to continue to work with authorities “to develop a concrete voluntary agreement”….

Some elements of the package appeared to be based on optimistic assumptions.

Consider what this means: the part of the bargain that was the focus of the negotiating effort, the haircut on a voluntary Greek restructuring, has been agreed upon only at a high concept level. Remember that the earlier deal, a 21% haircut, was supposed to get a 90% participation rate, then the officials decided they could live with 80%, but the uptake rate came in at roughly 75%. Will the IIF do a better job of delivering its members this time? There was some bizarre face saving bluster in the official presentation. The officialdom had clearly wanted a 60% haircut, so beating them back to 50%, with details to be sorted out (which if the US is any guide, will work to the advantage of the financiers). So notice the posturing, per Bloomberg:

Sarkozy said the bankers were escorted in “not to negotiate, but to inform them on decisions taken by the 17 and then they themselves went on to think and work on it.” Luxembourg Prime Minister Jean-Claude Juncker said the banks’ resistance was broken by a threat “to move toward a scenario of total insolvency of Greece, which would have cost states a lot of money and which would have ruined the banks.”

I doubt that anyone with an operating brain cell thinks the Eurozone leaders were willing to break the banks. And the overall scheme, in particular the €1 trillion+ rescue facility, as we have discussed in prior posts, is unworkable unless real money comes in. That either means the ECB, which the Germans are dead set against, the IMF, which will contribute but not on a scale to be sufficient, or China. Bloomberg said that Sarkozy was going to call Chineser president Hu Jintao to hit him up for funding tomorrow.

Even though this plan, such as it is, has lots of gaps, including an insufficiently large rescue facility (Sarkozy’s brother Olivier, head of the financial services group at Carlyle, in an FT op ed earlier this week, estimated the total required for banks alone to be $2 trillion, or €1.4 trillion, and that’s before you add in sovereign rescue requirements).

Mr. Market is nevertheless cheered by this sketchy, flawed outline. Most Asian markets were up over 2%, the Dax is over 3% higher, the FTSE has nearly 2% in gains, and the euro is close to 1.40. Perhaps the Eurocrats can keep these “get us through the next crunch” rescue packages going, but each deal seems to be harder to push over the line.

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  1. NYT

    Hi Yves,
    When U.S. banks say that their Euro debt positions are hedged, does that usually mean they are hedged with CDS?
    Does this haircut on Greek bonds with no credit event mean that the US banks might have to reduce the value of their Euro debt (non-Greek debt), since you would think they have to agree that their hedging is no longer watertight?

      1. NYT

        Do you think in the next quarter banks holding (say) Spanish government debt will have to take a write down given that it is undeniable that the CDS hedge on it may in fact be worthless.

      2. Francois T

        Do these blithering idiots realize that should the digestive remains hit the aerodynamic tunnel with too much force for said tunnel to stay structurally intact, that CDSes are not bound by the laws of physics to be honored?

        In a word, what the Bush administration (briefly) threatened to do to Bayer during the anthrax panic (that is, nullify their portfolio patents on ciprofloxacin) could be done here about CDS: declare them null and void.

        In these very testing times, financiers should be extremely careful in not stressing societies too much. The snapback could hit them in the face rather painfully.

  2. Linus Huber

    The looting continues and the burden will again be on the tax payer. Slowly everyone is in the corner and the only way out is to really crash the banks as they will not voluntarily abandon their looting.

  3. LeeAnne

    Well, if you’re looking for the end game: “Merkel wants ‘permanent’ supervision of Greece, warns of war” FT

    1. LeeAnne

      Big correction and apology “Merkel wants ‘permanent’ supervision of Greece, warns of war” By Valentina Pop

      Brussels – Peace should not be taken for granted if the euro fails, German chancellor Merkel told MPs Wednesday (26 October) ahead of the eurozone summit where an increase of the bail-out fund firepower …”

  4. Jim Haygood

    ‘Remember that the earlier deal, a 21% haircut, was supposed to get a 90% participation rate, then the officials decided they could live with 80%, but the uptake rate came in at roughly 75%. Will the IIF do a better job of delivering its members this time?’

    This is a critical point. With hindsight, the aborted 21% haircut deal would have been a windfall for some parties. After all, with some Greek debt trading at 40 cents on the euro, swapping it for a new package worth 78 cents almost doubles one’s money. Yet only 75% took it up!

    In the new deal, bondholders at best get a step up in value from 40 cents to 50 cents. But depending on the maturity profile of their debt, they may be no better off. Certainly there is less incentive for ‘voluntary’ participation than in the previous July deal.

    It must be galling to those who own Greek debt with CDS protection to learn that a corrupt political deal has rendered their default insurance worthless. It’s like owning a stock with put protection, and then after a market crash, the option dealers declare that no puts can be exercised. Obviously the credibility of that market would be over.

    But the CDS debacle is more than merely galling. While some gain from welching on CDS payoffs, others on the other side of the trade (likely including some banks) lose. In the case of banks, they are now to raise capital in dilutive fashion under poor market conditions, rather than collecting on their CDS.

    Since the ISDA has a New York office, it would not be surprising to see them sued in U.S. district court. I could write the brief straight from today’s newspapers: Dallara was summoned in ‘not to negotiate, but to be informed of decisions’ — and this is VOLUNTARY?! Orwell, you’ve met your match!

  5. Jim Haygood

    I hope it is okay to post this item from another blog, because it is a very succinct analysis of how a ‘50% haircut’ turns into only 28% effectively — and leaves Greece hopelessly over its head in debt, condemned to a decade in depression unless it repudiates everything:

    Greece has €350 billion in total debt including about €70 billion in Troika “post-petition” loans; these are untouched.

    Of the €280 billion, roughly €75 billion is held by the ECB: this, like the Troika loans, will be untouched.

    This leaves just ~€200 billion in actual debt to undergo a haircut.

    Apply a 50% haircut to this debt (ignoring the fact that of this about €35 billion is held by Greek pension funds, and once the realization that Greek pensions have been cut in half dawns upon the population, the result will be the biggest riots ever seen in Athens yet).

    Total debt to be cut: just about €100 billion.

    Hence, of the total €350 billion, just €100 billion is eliminated, most of it used to backstop and service Greek pension and retirement obligations.

    €250 billion, the residual of the original €350 billion, is 72%, or a 28% haircut.

    Greek GDP was €230 billion on December 31, 2010 and declining fast [i.e., debt remains above 100% of GDP and rising AFTER the haircut]. And that is how a 50% haircut is “cut” almost in half.

    This is what might be called inverse populism: the supranational lenders of the Troika aim to collect every cent they are owed, while private debt holders get chopped in half.

    Oh, wait: in the case of privileged bank debt holders, those same supranational bodies, instead of restructuring the undercapitalized banks and haircutting THEIR bondholders in turn, rather are guaranteeing to recapitalize them!

    So, one way or another, the banksters get made whole on the back end. Only private investors and the public get the full, bitter haircut shoved down their throats. This is how ‘socializing losses’ works in Soviet Europe, comrades, to protect and coddle our irreplaceable bankster brethren.

  6. jake chase

    I always though that ‘voluntary’ meant you could take it or leave it. What does this mean to holders of Greek bonds who do not participate in the swap? Do they get paid in full and if so, from what? Does this mean Greece gets to start over accumulating unserviceable debt? Does this mean holders of Italian and Spanish bonds can expect similar treatment? Why has nobody thought to regulate CDS as insurance and limit payouts to those having an insurable interest (ie, bond owners)?

    Whatever this “solution” means, it is curtains for those now short equities, and desperate hours for those fund managers who “prudently” stayed away from stocks during the past two months. All of them need to catch up on Veblen, who told us 107 years ago that capitalism can be saved from chronic depression only by wasteful expenditures (think government) and persistent money printing (think European Stability Fund, Federal Reserve).

    It should be clear to anybody that when any institutional problem can be solved by monetizing debt, that debt will be monetized no matter how big the pile. As for individual debtors, however, they get to experience Republican free enterprise, and Bob Corker and cronies thank you for your votes.

  7. Slim

    It’s all good. Appears the ISDA finds that a 50% haircuts is NOT a credit event. Just a typical occurrence. Like losing half your house in a fire, wouldn’t really be a insurance event either.

    This is one deep rabbit hole.

  8. Gerald Muller

    I am not an expert like some readers of NC, but I get the gut feeling that this whole charade is only another kick down the road, albeit a bigger than usual kick.
    Can someone explain in standard English why having Greece default on, say, 80% of its debt (this seems to me a minimum in order to avoid putting more pressure on the Greeks people than they can and will tolerate), and therefore activating the CDSs, would be such a drama? The insurers would get hurt but so what? That was the risk they took in the first place. Why this aversion to a real default, called by its name, rather than this so-called “voluntary” haircut? I seem to be missing something here. Help anyone?

    1. John L

      Here’s my view. The French and German banks cannot afford to take 80% write-downs; this will bankrupt them. Sure, some of their investment in Greek bonds is hedged, but how much? It is also likely that the CDS counterparties (insurance companies, hedge funds, and other banks) do not have the money to pay out if a credit event occurs. Since we’re talking about large and well known institutions, they have significant political clout and effective lobbyists. So why accept losses when you can use your political influence to force losses on the taxpayers? I also suspect that the banks were arm-twisted into buying some of these toxic bonds by their governments, so maybe they are justified in seeking a bailout to some degree. It would be nice if all the facts were transparent.

    2. jake chase

      I think you are missing the fact that the CDS exposure is not limited by the amount of the Greek debt. Imagine that a billion dollars was being bet on whether or not your house would burn down. If the Greek debt is 800 million, the CDS exposure is probably 100 times that, and most of it is held by American banks, unless I miss my guess. This is the elephant in the room that everyone pretends not to notice. Otherwise, nobody outside of Greece would care if Greece goes balls up. Somebody please correct me if I am wrong about this.

      1. Montysano

        Exactly my understanding as well. Most people can’t get their head around the fact the CDS exposure is many multiples of the actual debt, and the reason they can’t get their head around it is that it’s f**king insanity. And don’t even try to explain naked swaps (“I’m going to take out fire insurance on my neighbor’s house”).

  9. Jim Haygood

    Gavyn Davies of the FT says ‘Show me the money!’:

    It is notable that the summit has not really raised any new money, apart from an increase in the private sector’s write-down of Greek debt by some €80bn.

    All of the remaining “new” money, including €106bn to recapitalise the banks and over €800bn to be added to the firepower of the EFSF through leverage, has yet to be raised from the private sector, from sovereign lenders outside the eurozone, and conceivably from the ECB.

    There is no guarantee that this can be done. The eventual out-turn of this summit will depend on whether this missing €1,000bn can actually be raised.

    Oh, my — a missing trillion?! Times are hard everywhere, friends. If the ECB can’t print it … IT DON’T EXIST!

  10. Maju

    Spanish TV is repeating that “banks will NOT need state support”, what means that they probably DO but are waiting to after the elections (Nov 20). Particularly Banco Santander seems to have suffered the bulk of the EU’s demands about recapitalization.

    Anyhow, I’m quite surprised that markets have welcomed so much the radical (50%) haircut of Greek public debt (half bankruptcy!!!). It means that they expected much worse.

    I’m also concerned that French (and other core-European, such as Belgian, German) banks are not being disciplined as they probably deserve. To my nose it stinks to denial which will explode somehow in the near future.

    1. Jim Haygood

      EBA said that Santander alone needs 15 billion euros capital — more than the entire French banking system!

      SPAIN – Total needs (EBA): €26.1bn

      The government has said its banks will not need public funds. Convertible bonds will also be taken into account by the EBA, something Spain has pushed to be included. This will reduce the bill for Spain by about €9bn, economy minister Elena Salgado said in a radio interview on Thursday.

      • Santander: €15bn
      This does not include €8.5bn of convertible bonds. Once these are factored in, the capital shortfall is €6.5bn. It ays it will not need a capital increase and will not need to cut dividends. It aims to reach 10% core capital by June 2012, up from 9.42% at the end of the third quarter.

      • BBVA : €7.1bn
      Of that, €1.9bn is related to sovereign risk.
      Says it can generate enough capital internally to meet the requirements and can maintain dividends.

      • Banco Popular : €2.4bn
      Can raise capital “organically” and through existing convertible bonds.

      • BFA, the parent group of newly-listed bank Bankia : €1.14bn
      Says it does not need public funds.

      All say they can find the capital and even keep paying dividends. Qué maravilla!

      This whole story sounds flaky to me — both the EBA numbers, and the nonchalant Spanish reaction.

      1. Diego Méndez

        You are missing the elephant in the room.

        To the extent that debts in the periphery are unrecoverable, the whole European banking system is bankrupt.

        The French and the Germans got away with hiding the obvious, well-known secret about their own banks. EU asymmetry at its best.

      2. Maju

        They have mortgages and empty houses nominally valued much more than that. Hehe…

        Anyhow, this is what EU gang leaders say, which, considering the lack of spirit by Spanish politicians (and they are in electoral campaign, what to expect after the vote: selling citizens as slaves?!) is more than likely going to be unfair against Spain and in favor of France (who dares to rise the tone to irky Sarko?!)

        IMO, while not rejecting that there is some good deal of truth in the assessment re. Spanish banks (which is NOT the same as Spain as state, let’s not forget: banks are private ventures), I understand that Italy (public debt in this case, a Greek-like case) and specially France and its Belgian satellite (their banks again, not the state, not yet) have got away much better than they actually deserve.

  11. Hugh

    This is another in a long line of non-deals. The casinos that pass for markets will love it for a few days and then they will notice that there is no there there. Dashing off a business plan on the back of a wine-stained napkin is a masterpiece of forethought and meticulous attention to detail compared to this.

    I keep saying this but it needs saying. This doesn’t fix Greece. Best case scenario, in 2020, after a decade of little or no growth, it will still be a basket case ready to fall apart all over again.

    None of the underlying conditions which produced this mess are addressed. The eurobanks remain insolvent. They continue to be run by the same criminals who bankrupted them. The rest of the periphery, including not so periphery countries like Belgium, remains on track to head over the cliff. All of the problems with the euro, the lack of a fiscal/debt union, are still there. And the ECB continues to be ineffective and nothing more than a German sockpuppet. Germany’s mercantilist trade policies which have done so much to create the balance of payments problems remains unchallenged. Europe’s corrupt and criminal elites also remain firmly entrenched. I didn’t know it but that Sarkozy’s brother is a big wig at Carlyle just says so much about the incestuous relations between Europe’s political and financial classes.

    What we are seeing in Europe is the progression from zombie banks to zombie countries to now a zombie continent. Ain’t kleptocracy grand?

    1. Mr. Eclectic

      Best case scenario, by 2020, the Greek debt will fall to 120%. Which is higher than when this particular episode of the crisis erupted. Job well done!

      And on a tangent, 2020?! They couldn’t forecast the crisis in 2007, and now they’re making assertions about 2020?! You’ve gotta be effing kidding me.

  12. Gerald Muller

    What Gavyn Davies and some others posts confirm my gut feeling that this was another exercise in kicking the can down the road. I will listen tonight to the amount of lies that Sarkozy is able to utter inside an hour or so.
    I also have another gut feeling: that Mr. Market is playing foul. He is actively buying now, certain that Mr. Sucker will follow suit. Meanwhile Mr. Market will short mainly the banks and make a killing on the back of Mr. Sucker. Anything new in this brave old world?

  13. Sunny129

    Can some one enlighten me re: the effect of 50% cut on Greece’s public/private+Greek banks’ balance sheet? how does it work in conjunction with austerity measures?

    1. Mr. Eclectic

      The whole think nets down to a measly 30-50bn euros (estimates vary, depending on the participation of the banks) total reduction of the debt (from a grand total of 360 and rising). Plus Greek banks and insurance funds will need about at least 30 bn, which should be covered by the state (further debt from troika). Great scheme, isn’t?

    2. Maju

      The Greek debt is rising faster (or almost faster) than that thanks to EU “rescues”. So to me it is about a mere gesture to lighten the burden a bit without going outright bankrupt and cheer up the markets while they try to plug the other many holes the Eurozone has (Greece is not anymore the eye of the hurricane: Italy is – and Italy is 6 times the size of Greece in both population and GDP… and public debt, having as many voting rights as France or Germany in EU/Eurozone affairs).

      The figure was meant to be 60% but rating agencies threatened with considering the measure outright default, so it was reduced a bit. It is still half outright default, no matter how you look at it.

  14. dbk

    Re: how this is being received by Greeks, cf.

    (26 October, outside the church of St. Demetrius in Thessaloniki as the Minister of Defense [representing the government, who were elsewhere engaged] entered/exited the church). Yesterday was the celebration of Thessaloniki’s patron saint (Demetrius) as well as the anniversary of the day the city was freed of Ottoman occupation in 1912, after nearly 500 years).


    (video of a lecture [in English] by Trichet delivered at Humboldt University in Berlin earlier this week).

    Finally (for NC readers in NYC):

    Yanis Varoufakis, a leading Greek political economist, will address the subject of the Greek/EMU crisis at Columbia on November 8.

  15. charles sereno

    The default Sword of Damocles — What’s not talked about enough is the fact that every one of the PIIGS are almost total energy importers with no commodity export offsets. What? Greece is going to sell enough olive oil to buy oil? The Argentina case was different (and that was hard enough). They were energy exporters and had plenty of beans to sell to China.

    1. Mr. Eclectic

      Greece has resources, besides agriculture and tourism. Its chief exports are minerals, aluminum, chemicals and pharmaceuticals. Plus the fact that the country was deindustrialized due to EU regulations (caps to textile industry and shipyards), and the fact that the EU and the Greek government promoted outsourcing to other Balkan countries. Most greek (small scale) textile and clothing companies run shops and factories in Bulgaria for instance.

      The whole EU membership thing may seem absurd right now, but lets not forget what the point was for the Mediterranean and Iberian countries: peace, stability and democracy. Greece, Spain and Portugal entered after having deposed juntas, and Italy was always under the threat of one. Especially for Greece, since its declaration of independence, it should be noted that at least every 20 years the country was either in a war or under a junta. These past 37 years have been the longest period of stability the country has experienced. Concessions in society, state and principles seemed to a majority the necessary price (foolishness, of course).

  16. Sy Krass


    Could we see a bond market collapse in the next few weeks (Portugal being the first in line) because of this “haircut?” Is any default or write down orderly?

  17. Tim

    So the end result of this if it works is that yields on the sovereign debt of the PIIGS should drop right? We’ll have to wait and see if that really happens. This next article gives one major reason why it won’t.

    The bottom line is if the CDS don’t work then the debt is perceived as more risky and the only way to offset that is to demand a higher rate.

  18. Sunny129

    FOXES minding the HEN’s houses!

    Who gets to decide if the Greek haircut is a credit event?

    The International Swaps and Derivatives Association has issued a statement Thursday suggesting that the 50% haircut agreed by European leader for holders of Greek debt appears to be voluntary.

    The statement notes that market participants can request a ruling from the ISDA’s EMEA Determinations Committee, however:

    “…the restructuring proposal is not yet at the stage at which the ISDA Determinations Committee would be likely to accept a request to determine whether a credit event has occurred.

    who is on the committee that gets to decide whether a credit event has occurred that would trigger the credit default swaps that would, presumably, create economic chaos?

    These guys, according to ISDA:

    -Voting Dealers Bank of America / Merrill Lynch Barclays BNP Paribas Credit Suisse Deutsche Bank Goldman Sachs JPMorgan Chase Bank, N.A. Morgan Stanley Société Générale UBS

    -Consultative Dealers Citibank The Royal Bank of Scotland

    -Voting Non-dealers BlackRock (Third Term Non-dealer) BlueMountain Capital (Second Term Non-dealer) Citadel Investment Group, LLC (First Term Non-dealer) D.E. Shaw Group (First Term Non-dealer) Pacific Investment Management Co., LLC (Second Term Non-dealer)

  19. Sunny129

    50% haircuts, a CREDIT Non-EVENT?

    Any legal challenge on this????

    From ZERO HEDGE:
    (Reggie Middleton)

    an email I received from one of my
    many astute BoomBustBloggers.

    I’m a lawyer (and investor). There is no analysis by anyone on the internet about whether the announcement last night would in fact trigger CDS payout. Rather, everyone seems to be accepting the claim by ISDA that the decision would not trigger it. Because I can’t find any legalworth reading on the interne

    I decided to do my own research. In about 5 minutes I found a case inthe 2nd Circuit (USA) that explained to me what’s going on with thosecontracts. First of all, they are unregulated private contracts betweenprivate parties. In order to know whether a trigger occurred you have toread each individual contract. As a result, what the ISDA says aboutwhether a trigger occurred as to private contracts that are out there istotally meaningless.

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