Thursday, 29 September 2011

Merkel Prepares Market for Bigger Haircuts; Split opens Over Greek Bail-Out Terms; Needs vs. Fantasies


French and German banks know a good deal when they have one. They have one in the 21% haircuts they "voluntarily" accepted. The problem is even 50% haircuts are likely insufficient. The bondholders are upset at this reality. Tough.
Yahoo! Finance reports Merkel says Greek bailout terms may be changed

German Chancellor Angela Merkel hinted that the second Greek bailout package might have to be renegotiated amid increasing market speculation Wednesday that European leaders want to force private holders of Greek bonds to take bigger losses.
Merkel didn't rule out altering the terms to the euro109 billion ($148 billion) package, saying the decision must be based on how Greece's debt inspectors, the so-called troika, judge Athens' recent austerity efforts.
"So we must now wait for what the troika finds out and what it tells us: do we have to renegotiate or do we not have to renegotiate?" she said in an interview with Greece's ERT television Tuesday night.
Merkel added that she "cannot anticipate the result of the troika."
Greece "will not get back on its feet without a serious reduction in debt," said Ottmar Issing, a former chief economist of the European Central Bank, who has served as an adviser to Merkel in the past.
Athens needs to see its debt cut "at least 50 percent, probably more," Issing was quoted by Germany's Stern magazine.
Germany's banking association insisted there was no need to renegotiate the terms of the second bailout package. Banks in Germany and France are among the biggest holders of Greek bonds.
A default by Greece or another country would send shock waves through the global economy, particularly in Europe, authorities fear. Banks would suffer such large losses on government bonds they hold that they would cut off credit to the wider economy and cause a new, sharper recession.
Needs vs. Fantasies
The banking industry says there is no "need" to change the terms. Of course there is a need to change the terms. Banks are not going to be paid back what they are owed. Let's not confuse "needs" with pie-in-the-sky fantasies.
Split Opens over Greek Bail-Out Terms
The Financial Times reports Split opens over Greek bail-out terms
A split has opened in the eurozone over the terms of Greece's second €109bn bail-out with as many as seven of the bloc's 17 members arguing for private creditors to swallow a bigger writedown on their Greek bond holdings, according to senior European officials.
The divisions have emerged amid mounting concerns that Athens' funding needs are much bigger than estimated just two months ago. They threaten to unpick a painfully negotiated deal reached with private sector bond holders in July.
While hardliners in Germany and the Netherlands are leading the calls for more losses to be imposed on the private sector, France and the European Central Bank are fiercely resisting any such move. They fear re-opening the bond deal could spark renewed selling of shares in European banks, which have significant holdings of Greek and other peripheral eurozone debt.
Senior European said there was significant division over the move to re-open the bondholders' deal, which could trigger a bigger and earlier restructuring of Greek debt. Even within Germany, officials are split over whether to press for a bigger "haircut" for private sector creditors.
Under the terms of the July bail-out, bondholders agreed to trade about €135bn in bonds that come due through 2020 for new, European Union-backed bonds that would not be repaid for decades. This deal implied a haircut of 21 per cent for bondholders, but many German officials say they were forced to agree a deal that was too beneficial for the banks.
Take the Loss
One look at the DAX, or European bank stocks suggests major shock waves have already been felt. More are coming. However, the shock waves would have been far less had banks, the ECB, and the EU accepted realistic losses two years ago and simply let Greece default.
Losses will now be four to 10 times as large, depending on how much more money everyone is willing to throw at the problem. Thus, upping the ante to shelter bondholders from losses was exactly the wrong thing to do then, and it is still the wrong thing to do today.
Barry Ritholtz had an excellent article on this theme just today: Take The Loss.
The fear should have been in hiding losses not taking them. Unfortunately, I expect some wishy-washy compromise will up the losses one reportedly "final time" to 30-35% not the needed 60% or so. It won't work. Hiding losses by not reporting them only makes matters worse.
Mike "Mish" Shedlock
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Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit to learn more about wealth management and capital preservation strategies of Sitka Pacific.

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