Greek Bond Yields

The yield on Greek government bonds has now crept up to more or less where it was prior to all the EU meetings of the past few months (see here.) I’m not sure why the various annoucements haven’t helped and newspaper reports like this one and this one don’t explain as much as I’d like.

If the high bond yields are a sign of doubts about whether a rescue is actually going to happen, and thus the debt may be defaulted on, then the eventual arrival of the cavalry (in the form of the EU) to keep the debt rolling over would end up bring the yields down to more sustainable levels and hopefully stabilise the situation. A less sanguine interpretation of current events offered to me by a colleague is that the terms of the deal being offered by the EU—in which any lending would be at current market rates—doesn’t really offer Greece a route out of insolvency because bond yields at this level are not consistent with stabilisation of the public finances.

I’m more inclined to believe the former intepretation and that the EU will prevent Greece defaulting. Whether it should is a different matter.

39 replies on “Greek Bond Yields”

How can the EU or any member state prevent Greece from defaulting without breaking sovereign bailout rules?

By rules I mean laws or binding treaties designed to protect the soundness of the euro.

@ Ciaran

I think that part of what is driving the German position of “lending at market rates” is the idea that it’s not actually a bail out of the rates are set at what the market (had been) lending to Greece at. It’s a pretty tenuous justification but I think that’s the idea.

Weren’t the terms of the EU/IMF “bailout” that the EU would only step in if Greece was unable to raise funds in the open market?

They have to be “falling off the cliff” before Germany will help.

Maybe I misread.

Is Greece trying to force the EU hand but just arguing about the price of funds.

The EU/IMF bailout plan was not the outcome the Greeks wanted as all it would ensure is that they could borrow but at high prices, which presumably would always be the case anyway.

The Greeks have been complaining about speculation against them but cynics/conspiracy theorists might wonder if Greece is now speculating against itself in order to force a better deal.

There has been a lot on this over at Eurointelligence over the last few weeks.

A recent article by Wolfgang Munchau concludes: “My expectation is that Greece will default if the interest rates remain at 6%. Germany’s tough position, which prevailed during this summit, is very likely to push Greece over the brink, but keep it inside the euro area – the worst of all conceivable worlds.”

http://www.eurointelligence.com/article.581+M55425064846.0.html

The EU fudge did not commit EU member states to actually commiting funds. Ironically, this failure to commit to actually providing funds if necessary has made it more likely that member states will have to commit funds as Greek is pushed towards the brink.

No doubt Greece would have preferred a strong commitment from the EU which would have strengthened the Greek borrowing position and thereby made it less likely that Greece would have to call on its neigbours. Greece now understands just how firm the Germans are in their stance that nothing should be given away for free. Comfort, like a guarantee, has a value and a price.

Munchau quite rightly looks at who has loaned money to the Greeks. One gets the feeling that the Greeks are ready to play hard-ball such that if they default they will take as many of their lily livered ‘friends’ with them as possible. The new administration is not pleased with the EU oversight of the previous administration and is not willing to perform political hara-kiri in supplication for forgiveness. It is worth noting that much of the previously “hidden” Greek debt is owed to German companies.

This is interesting from the Irish perspective too. If Ireland is forced to default it is likely to first default on the bank guarantee. After AIB and BoI are cleaned and recapped, this will really only apply to Anglo debts (save to the extent that Anglo owes money to the other two). Therefore, the longer we keep Anglo going the more interest the other Europeans have to keep Ireland going.

To some extent, nations, like ordinary borrowers, might find that the more they owe the stronger their bargaining position is with their creditors.

Currency manipulation. Fiats falling like a stone. This one will run and run! How low is safe? Is this at the behest of another major currency? To distract? How desperate is that?

Of course it makes no sense. The true purpose is to cut the amounts due, by devaluing debt. That much has been clear from the start. Now, how do we keep interest rates down????????

How long will Greek bonds be available as repo collatoral?

Could spin out of control rapidly.

I think there are several issues playing into this at the same time, one is liquidity, if the market is not trading liquid (not very common on the sovereign side) then you can have problems with price discovery, and that goes for bond auctions as well. I enquired about Greek debt recently with a bond desk I deal regularly with and they shied me away from it – but with an EU guarantee isn’t it a sure thing? Apparently it is but at the same time no. Fixed income is funny that way.

Then you have an EU bailout guaranteed but only if required, in which case the market will take Greece to the pin of their collar on yields (on secondary debt you’d see the correlation via discounts). The market want maximum return and the Greeks want enough liquidity to continue operations, it is only natural that we see yield decompression when compared to Germany [but was surprised nonetheless at that overnight giant step all the same]

This all strikes me as making sense, investors will make hay while the sun shines, buying these bonds has a short term risk on the capital side so yields will need to impress, am I alone on that?

Even if so Irish economic and political commentary on the role of the euro in Ireland’s downfall is largely absent, it is good to see the Baseline Scenario not ducking the issue in article linked to above:

“The cheap access to money also helped feed the real estate booms in Ireland and Spain. “

Check Greek 2 year yields – they’re around 6.3%, versus 0.98% in Germany. Whatever about the risk implied in 10 year bonds of a yield spread of 400bp, (or Greek yields about 2.3 times the German yield), the 2-year yield differential of 530bp, leaving Greek yields in this area 6.4 times those in Germany, is saying that markets expect something very nasty very soon.

Greek 2 year yields are available on the Bloomberg link in Karl Whelan’s piece, using the security identifier GGGB2YR:IND.

My take on it is that keeping Greece on the edge serves to keep the value of the Euro down vs its major competitors outside of the EU. Germany has to export to prosper and the Chinese are quickly moving up the value chain and will soon put a dent on German exports to the US and Japan. The chattering classes on the currency trading desks are all atwitter about the collapse of Greek sovereign debt. It is a replay of the Vietnam gambit, first Vietnam then Laos, Cambodia and Thailand. Now it is Greece, Spain, Portugal, Italy, Belgium. Ireland is getting a bye I do not know if that is because we are so tiny or we are going to perform financial miracles. Germany is not the only country to benefit from a weak Euro, as France, Belgium, Holland would also benefit. The greed and fear factor must also be reckoned with, if Greece did the unthinkable and walked away from its obligations to the Euro and the EU then the Euro would enter into a tailspin which could prove damaging to the EU as a whole. If Angela sees the Euro in a controlled descent of another 5-10% she might then in agreement with her supporters (Sarkozy et al) come to the aid of Greece in a meaningful way. There are cracks in the German gov’t so they are likely to cave, an imminent crisis would be a useful tool to bring German public opinion on side. Also remember that when a group of countries are staring serious disruption to their economies in the face legality will come in the door as illegality goes out the window.

Bloodbath this morning on Greece btw…5yr +42bps, 2yr +92bps, entire Greece bond curve now well over 7%…

Difficult to see Greece lasting beyond the weekend.

http://www.ft.com/cms/s/0/edbfc18c-4268-11df-8c60-00144feabdc0.html

“Greece’s four largest banks are seeking government support to help counter a liquidity squeeze resulting from a significant flight of deposits in the first two months of the year.

George Papaconstantinou, finance minister, said on Wednesday that the banks “have asked for access to the remaining funds of the support plan” – a €28bn ($37bn, £24.5bn) government package that was put together during the 2008 global credit crunch.”

I reckon we get some support from Trichet this afternoon and then a real bailout (as opposed to the holding plan done a few weeks ago) from the IMF/EU over the next week. Entire Greek curve now pushing over 7.5%, its probably 150bps north of even stressed-but-doable levels in terms of servicing the debt…

The fuzzy principles of competition, co-operation and solidarity underpinning the EU will be severely tested. The price of allowing an ill-prepared and institutionally weak polity to become a full member of the EU so soon after the rule of the Colonels must now be paid. Is a constitutionally constrained – and increasingly self-interested – Germany prepared to foot the lion’s share of this bill?

Would be useful to see the Greek ‘black’ economy cash brought into the system. When Italy recently announced an amnesty for ‘black’ money, €95bn was deposited in Italian banks in two weeks. Berlusconi was full of praise for the resulting robustness of Italian banks.

I don’t have a copy of tomorrow’s newspapers to hand but if Greece defaults, I wonder will Europe contract to a slightly broader version of the Hanseatic League? Greece like Ireland has been toying with all kinds of industrial development incentives for years. However, neither country never really had a decent manufacturing base in the first place so the policies were driven by policy makers rather than market makers.

Remember those extraordinary parties of one’s youth, when the music and exotic aromatics never ended? Well they were sore-headed fantasies too. The credit party is over – let’s skip the Quinn group debate – now the question is which guests will be forcibly ejected.

It’s not a great time to be slobbering around with promise notes.

From Bloomberg today:
‘Concern that the Greek debt crisis will infect other indebted European nations helped drive the cost of default swaps on Ireland 12 basis points higher to 172, according to CMA. Contracts on Portugal climbed 13.5 to 176.5, Spain was up 10 at 141 and Italy rose 9.5 to 137 basis points’

Can anyone explain the mechanism by which hedge funds short-sell sovereign debt? Is it the case that the structures of one or more of
(i) NAMA,
(ii) the recent re-capitalisation of our (literally) banks,
(iii) the debt owed by Anglo,
make it difficult for hedge funds to short-sell those debts, and/or, do the legal differences between sovereign debt and debt owed by Anglo mean that a default on Anglo debt would not constitute a default on sivereign bonds? The same questions apply to CDSs on sovereign debt.

The role of hedge funds and short selling has was massive in the Asian crisis. Is there any chance our division of debt types can protect us somewhat?

I suppose I might as well display my ignorance and ask the question to which, I suspect, many people would like an answer. What benefit does the holder of a tradable stock or security gain from lending it to a short-seller who is gambling on a price fall and, should this occur, being returned the security at a lower price? I can’t see how the fee paid by the short-seller for borrowing the security will compensate the original holder for the fall in capital value. Or does the original holder of the security make an off-setting bet?

Paul Hunt,

“ISLA has over 100 members representing more than 4,000 clients comprising insurance companies, pension funds, asset managers, banks and custodians”

http://en.wikipedia.org/wiki/International_Securities_Lending_Association

An asset manager might lend because it is obliged by its investment objectives to maintain holdings in (say) Irish stocks as the manager offers an “Irish Equity Fund”.

An Irish Equity Fund by definition cannot be 100% “not invested” in Irish Equities.

Custodians can make a turn for themselves by lending out stock held on behalf of clients.

@Greg,

Many thanks for the response, but I am still confused. I can understand how these “custodians can make a turn for themselves” in this manner, but do they not have a fiduciary responsibility to their clients? Surely there is a conflict of interests and a betrayal of this fiduciary responsibility if the custodian makes money while facilitating an activity that is intended to result in a reduction in the value of a stock held in the client’s portfolio. Don’t get me wrong, I’m not against short-selling in principle as an effective means of price discovery. Someone gets hosed here and I suspect its passive pension fund contributors like me.

@ Paul Hunt

The custodian’s duty to the owner of the stock is the safe custody of the stock. The custodian is not an asset manager. On lending they will ensure that owner of the stock will not suffer loss by taking collateral. They will (or should) not lend “willy-nilly”.

The owner of the stock has no intention of selling so has no additional market risk.

The owner will receive interest on the lend.

My expression “custodians can make a turn for themselves” is probably flippant.

They will get a fee for facilitating the lend.

@ Paul Hunt

“Someone gets hosed here and I suspect its passive pension fund contributors like me.”

Your pension fund will have medium to long term investment goals.

It will allocate assets by reference to those goals.

The short seller’s objectives are quite distinct from the objectives of the pension fund.

Of course if you are nearing retirement you should progressively allocate your assets to less risky assets. Nothing worse than getting wiped out two days before you retire.

@Greg,

Many thanks again. As a typical final consumer of goods and services – and therefore being at the bottom of the food chain, most of the time I have a reasonably good idea when and how I’m being hosed.

But getting back on thread The Economist has provoked a fairly heated debate on Germany’s role in any bail-out of Greece:
http://www.economist.com/node/15877579/comments?sort=recommend#sort-comments

It seems German voters aren’t prepared to do the Prodigal Son routine. And it may be the perception that Ireland is taking the pain – rather than the jiggery pokey with NAMA bonds and promissory notes (as queried by Zhou) – that is keeping the bond vigilantes at bay.

“The downgrade reflects the intensification of fiscal challenges in response to more adverse prospects for economic growth and increased interest costs. It also reflects ongoing uncertainties about the government’s financing strategy in the context of increased capital market volatility.”

Greece basically has 9bn in spare cash right now.

They have 12bn in debt maturing over the next 14 days. They have another 8bn maturing in 6 weeks time. They are also running a deficit of around 2bn per month.

So in the next week and a half they will have to find 3bn or so (1bn t-bill auction on monday), and in the next 6 weeks they will have to find around 14bn in total.

It aint gonna happen folks. Greek bonds are being refused for repo’s by some banks, and last week’s syndicated issue was down almost 9% from issue price at one stage yesterday. No one is gonna buy those bonds, and even if they did its going to be at such destructive rates (the May maturity hit 10% this afternoon) that it’ll destroy Greece anyway. There will simply have to be a full on rescue plan enacted, not simply discussed/planned, in the next couple of weeks, simple as that.

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