September 16, 2011
Europe default risks are on the rise. Take one look at the market for credit default swaps, and the probability that Greece will default on its $345 billion in debt is near 100%. Portugal, Ireland, Spain and Italy aren't too far behind.
Credit default swaps, or CDSs, are essentially insurance contracts that give bondholders a way to get paid back if a country or a company stops making interest payments on its debt. The data are useful in gauging how worried investors are about potential defaults.
Some investors buy these swaps as contracts on bonds they've previously purchased. Other investors, like hedge funds, simply buy the insurance but not the bonds.
"Credit default swaps are basically a thermometer of the market's perception of someone's creditworthiness," says Peter Boockvar, the equity strategist at Miller Tabak + Co. "We're obviously seeing legitimate concerns from the market that these countries will have difficulty paying back what's owed."
For nearly half the countries in the European Union, the price of insuring sovereign debt has increased more than 100% since July 2010.
In Greece, credit default swaps have become prohibitively expensive. The sellers of these swaps, or contracts, are currently demanding that buyers pay $6 million up front to protect $10 million worth of Greek bonds, according to data from Markit.
"This implies that there's a 100% chance of default," said Anthony Sanders, a professor of finance at George Mason University.
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