In Case You Forgot, This Greek Deal Is Probably Worthless

by Simone Foxman

Business Insider
February 7, 2012

Markets have appeared enchanted by reports coming out of Greece recently that Greek politicians are about to approve a new round of austerity measures and happily ignorant of the fact that negotiations about private sector involvement are still dragging on.

But even if the Greek government were suddenly to reach agreements with both the troika and its private creditors, it appears unlikely that both deals will actually be worth anything.

That's primarily based on the fact that the debt swap deal officials agree to with the private sector will likely never be implemented, particularly if the European Central Bank doesn't join in on sharing losses. As it stands participation in the plan will have to be "voluntary" in order not to provoke a credit event.

However, investors will fight tooth and nail not to bear the full brunt of the 70 to 75 percent losses they will likely take under the agreement if they can't collect on the insurance contracts (credit default swaps) they purchased to hedge against the possibility of a Greek default. Thus there are two probable outcomes:

• EU leaders forcibly prevent a credit event, potentially with a special account for Greece that would essentially would allow Greece to feign the appearance of paying off maturing debts without actually paying them off. In this scenario, the private sector would take a big hit and credit default swaps would not be paid out. This would ruin the CDS industry (at least in Europe) and foster deep distrust for EU leaders.
• EU leaders accept a credit event and let Greece default in a disorderly fashion. This essentially negates the deal that's happening right now. Theoretically, a disorderly default would result in a deeper cleansing of Greece's debt burden so the country would not necessarily need all the austerity measures the troika is forcing upon it. However, the consequences of CDS payouts are somewhat vague and its impact could be far-reaching, despite the industry's small size.

More