Here Comes The Great Greek Debt Restructuring...errr..Reprofiling

It was not if, but when Greece would be forced to restructure its debts. Dow Jones is reporting that the first victims of the dubiously named "voluntary re-profiling" will be the major Greek banks, including The National Bank of Greece S.A.(ETE.AT), Alpha Bank A.E.(ALPHA.AT) and EFG Eurobank Ergasias S.A. (EGFEY). The current scheme being presented requires the Greek banks to extend the maturities of their debt holdings. In return for agreeing to the plan, the EU authorities would not require the Greek banks to raise any more capital or write down the value of their Greek government bond holdings. After all, the FASB proved that accounting methods are meaningless and can be changed whenever they become an inconvenience to the financial system.

And if the Greek banks refuse to go along with this ponzi scheme?

The ECB will simply stop funding the Greek banking system, which is currently on ECB life support. This is where government coercion comes in. If the Greek banks balk at the deal, the ECB pulls all financing, leaving the Greek banks insolvent, as no one in their right mind will accept Greek debt as collateral for new loans. Once the Greek banks are unable to rollover their debts, with near zero interest loans from the ECB, the great Greek tragedy will come to a crashing end and the world will have another banking crisis.

If this plan comes to fruition, it could help Greece limp along for a while longer because domestic creditors currently own about 38% of Greek government debt, according to the IMF. This scheme would also benefit the major French and European banks who have hundreds of billions of dollars of exposure to the PIIGS. It also shows that as the EU debt crisis worsens, the major banks are beginning to throw each other in front of the proverbial bus to save themselves--cannibalization by the banking elite at its finest. Next up, Spanish, Portugal, and Irish banks.

Black Swan Insights

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Here Comes The Great Greek Debt Restructuring...errr..Reprofiling

Irish Bailout Only The Beginning--Endgame is EU Collapse

The much anticipated Irish bailout may be imminent, but CDS traders are still concerned. Today Irish CDS closed at 598 bps, just below the all-time high reached a few days ago. Furthermore, Irish 10-year bond yields are currently trading at 9.19%, signaling investors have little faith in the EU bailout. The reason for the uncertainty concerns the terms of the bailout, which could force ruinous stipulations on Ireland, including the favorable corporate tax rate and a 6-7% interest rate on the aid package. Of course, Ireland as the beggar nation has little bargaining power when dealing with the EU bureaucrats.

The real question for Ireland, along with Greece (and soon to be Portugal, Spain, Italy, and maybe Belgium) is: What happens in 2013 when the EU bailout fund is supposed to wind down? All of these countries will still be bankrupt and dependent upon EU loans. Do we simply remove the EU guarantees and let these countries default, or is this a permanent bailout, courtesy of German and French taxpayers? This could be the real reason the market has little faith in the EU bailout. It is only a temporary stop-gap measure by a desperate EU elite who want to hold the Euro together at all cost. This is why Greek 10-year yr bonds are still trading at 12%, despite an explicit guarantee by the EU.

The market is starting to realize that come 2013, government bond holders (the great gods of capitalism who never take a loss) will be forced to accept a major haircut to the tune of 30-40%. If this is true, and investors are pricing this in, then do not expect Irish debt to rally very much on Monday, when the bailout is announced. Oh sure, it may rally the first day, but it should remain elevated (above 8%) for the foreseeable future until there is more clarity regarding the EU bailout fund through 2013.

Personally, I cannot see the German and French taxpayers agreeing to a permanent bailout of the PIIGS. You have already started to hear Ms. Merkel of Germany suggest that some reform to the bailout terms must happen in 2013 and investors should suffer for their foolish investments. This leads me to believe the end game in 2013 will be a forced debt restructuring. All of the PIIGS will give the bondholders a choice-- either accept the new terms or get nothing. The new terms will be a 30-40% reduction in principal along with an extension in duration. As a sweetener bondholders may get a slightly higher interest rate.

The only problem with this outcome is that German and French banks are large holders of PIIGS debt and would be negatively impacted to the point of insolvency. The chart below shows French and German banking exposure to the PIIGS.

click chart for larger image

Any debt restructuring of PIIGS debt would require the French and German governments to bail out their banks to help cushion the large write downs, which are currently marked at par. But the advantage of this is that it will not be until 2013, so it buys the EU elite some much need time and follows their extend and pretend routine.

The End of The Eurozone

While the EU bureaucrats claim the Euro is strong and safe, the die has already been cast, and the Euro is destined to collapse sooner or later. The catalyst will be when either one of the PIIGS leaves the EU to escape the ECB and regain monetary sovereignty or when the German taxpayers revolt and refuse to bailout irresponsible countries. Trust me, one of these will occur in the next 5 years; the only question is when. Do the Irish (or Greece, Portugal, and Spain for that matter) want to suffer a depression for the 5-10 years through more austerity, tight ECB monetary policy, and loss of financial sovereignty after the EU bailout? Or do they want to choose the easy way out through currency devaluation and money printing (or call it QE if you want)? Historically, this has been the preferred method for countries which want to wash away their sins and move on because the alternative is so much worse. If the PIIGS go through with the prolonged depression, they will suffer large brain drains as young people and entrepreneurs leave to go on to greener pastures. The loss of these economically important people will make it that much harder for these countries to rebuild their destroyed society.

In fact, the only reason the PIIGs have not already left is because their leaders are part of the European elite who see the EU as a political priority. No doubt it will take numerous riots and civil unrest before the PIIGS leaders get out of the EU. It will take time for the angry mobs to understand that it is the EU and the Euro which bankrupted their countries. Right now their only concern is budget cuts and laying public workers off. But as the depression continues, they will finally see the real culprit and demand (by peaceful or violent means) out of the EU. The whole EU project was flawed from the start with the puerile idea that you could rapidly integrate all European countries under the same monetary policy. It never made theoretical or empirical sense but was approved because the EU was a political project from day one. The goal was to create a sovereign EU superstate with immense power for the European elite. Thank God, their dream is crumbling and will never be realized. The market has put an end to the whole concept. And some say markets don't work!

Black Swan Insights

Related Articles:
Irish Crisis Nears Endgame--5 Year CDS Surges To 495 bps
Which Country's Banking System Is At Most Risk?
Which EU Bank Has The Largest Exposure To Ireland?
How High Does Irish CDS Have To Rise Before It Is A Crisis?

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Irish Bailout Only The Beginning--Endgame is EU Collapse

Which Country's Banking System Is At Most Risk?

Previously, we took a look at European banks to see which one had the largest sovereign exposure to Ireland. Here is a very interesting chart from the Bank for International Settlements that shows total foreign exposure to Greece, Ireland, Portugal, and Spain by bank nationality. This is very important because it shows not just sovereign exposure but also total exposure (consumer lending, lending to the public sector, etc). The information is current as of the end of Q1 2010.

The most alarming statistic from the report is that total worldwide exposure to Greece, Ireland, Portugal, and Spain amounts to a whopping $2.6 trillion, which shows that any default could quickly collapse Europe and have significant consequences for the entire world.. The two countries who should be praying for a bailout of Ireland are Germany and Great Britain since they are they have the largest exposures. Better fire up those ECB printing presses!

Click chart for larger image

Here is a chart I made based on the BIS report which is easier to follow and more colorful. One thing to remember about the BIS report is that it does not include exposures of banks' headquartered in the respective country.

From the BIS report:

Banks increase exposures to Greece, Ireland, Portugal and Spain

BIS reporting banks increased their total exposures to residents of Greece, Ireland, Portugal and Spain in the first quarter of 2010, despite mounting market pressures on these countries. The $109 billion (4.3%) combined expansion brought BIS reporting banks’ aggregate exposures to that group of economies to $2.6 trillion.

Total exposures to Greece, Ireland, Portugal and Spain increase. Total exposures to Greece grew by $20.7 billion (7.1%). The expansion was driven by a $21.6 billion (29.3%) rise in BIS reporting banks’ other exposures, most of which reflected an $18.1 billion (54.0%) increase in their credit commitments to residents of the country. By contrast, foreign claims on residents of Greece declined by $0.9 billion (0.4%). Claims on non-banks and claims on the public sector both went up (by $4.0 billion (4.7%) and $0.8 billion (0.8%), respectively). However, those increases were more than offset by a $5.7 billion (16.9%) contraction in foreign claims on banks located in the country.

BIS reporting banks also increased their exposures to the residents of Spain and Portugal. Despite the fact that foreign claims on Spain declined by $10.3 billion (1.2%) during the period, overall exposures to residents of the country expanded by $17.3 billion (1.5%) due to a $27.6 billion (11.8%) rise inbanks’ other exposures. Meanwhile, banks increased their total exposures to Portugal by $10.6 billion (3.2%). Both foreign claims and other exposures went up (by $5.8 billion (2.3%) and $4.8 billion (6.1%), respectively). Spanish banks increased their exposures to residents of Portugal by $5.2 billion (4.7%), more than banks headquartered in any other country.

Black Swan Insights

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Which Country's Banking System Is At Most Risk?

Irish CDS Explodes Higher---Is Ireland the Next Greece?

   While everyone is well aware of the problems facing Greece, Spain, and Portugal the next crisis country could be Ireland. Irish 5 Yr CDS is exploding higher and currently trades at 375 bps, up 11% today alone and closing in on the all time high of 400 bps reached back in 2008. Ireland is plagued by an insolvent banking system which is much larger than the general economy. The banking system is heavily exposed to Irish real estate which experienced a 20 year boom which ended in 2008. Prices are continuing to fall as the economy struggles to recover from the 2008 financial crisis. This recipe makes the country vulnerable to total economic collapse similar to Iceland. The major difference is that Iceland had its own currency, while Ireland has given away that right to the ECB (sovereignty has its advantages). This means Ireland cannot adequately respond to to its economic problems with monetary policy. Fiscal policy is not viable after the whole Greek debt crisis made investors weary of European debt. In fact, fiscal policy in Ireland is currently contractionary as a result of the recently announced austerity measures. No wonder CDS is moving considerably higher.

Black Swan Insights

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Irish CDS Explodes Higher---Is Ireland the Next Greece?