Why the Greek CDS market is OK

by Felix Salmon

Reuters
October 28, 2011

All the talk about sovereign CDS of late — pegged off the fact that the Greek restructuring might not trigger an event of default — is I think missing three big points. First, why ISDA’s rules make sense. Second, why Greece’s CDS spreads are still extremely wide. And third, what sovereign CDS are used for.

But before we get to any of that, it’s important to understand the big picture. Greece has a lot of private-sector debt; most of it is held by banks. There is a small amount of sovereign CDS outstanding, which references that Greek debt. To give you an idea of the orders of magnitude here, we’re talking about roughly €200 billion in Greek bonds, and less than €4 billion in net CDS exposure. Even if all of the net CDS exposure was held by bank creditors, it wouldn’t remotely offset the write-down they’re going to have to take on their bonds.

In reality, the banks have de minimis net CDS exposure. They might trade the CDS, and have either a long or a short position on their trading books at any given time, but they’re not using the CDS to hedge their bonds.

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