Greece and fellow members of the PIIGS group of distressed sovereign states are considerably worse off than those tumulted by the Argentenian debt crisis of the '90s. Here's why...
CNBC reports: In Europe, an 'Argentinean Re-Run': Fund Manager
The situation facing European countries like Greece and Portugal is directly comparable to the economic crisis which hit Latin America in the late 1990s, Andy Brough, co-head of Schroders’ Pan European Small and Mid Cap team, told CNBC Wednesday.
"I get the feeling we're having an Argentinean re-run," Brough said. "In Europe, they've tried everything to sustain the system but it's unsustainable."
Argentina, together with the region's largest country Brazil and with Uruguay, suffered a sustained economic crisis last decade after building up a huge debt pile.
Argentina in particular continued to borrow heavily from the International Monetary Fund (IMF) without repaying its debts.
Tell me about it! For those who don't know the consequences of said actions I recommend you reference How the US Has Perfected the Use of Economic Imperialism Through the European Union!
"In the end the populace is going to say we didn't go into the euro for this," the Schroders fund manager said.
Fernando de la Rúa, then president of Argentina, had to flee the country in a helicopter after the unrest grew. While the political situation in Greece and Portugal is not yet that serious, there have been widespread protests on the streets of Athensagainst austerity measures demanded by the ECB and IMF as part of a second bailout of Greece.
It may be even more difficult for Greece and the banks supporting it to recover from its economic problems than it was for Argentina and Brazil, according to Brough.
"If you look back then, we didn't have the transparency we do now, so all the banks that were funding Latin America could smooth over what was going on," he said. "Now, everyone is in the spotlight so it's much harder for banks to smooth it over."
"The middle class in Argentina couldn't just withdraw their money, whereas the middle class in Greece or Portugal can take it out and buy anything that isn't the euro," Brough added.
In Argentina, the government slapped a $250 a week limit on withdrawals from its banks to halt massive pulling out of savings.
I would be remiss in failing to mention that we made this comparison in explicit detail this time last year - A Comparison of Our Greek Bond Restructuring Analysis to that of Argentina.
In order to assess the impact of sovereign debt restructuring on the market prices of the sovereign bonds that undergo restructuring (haircut in the principal amount or maturity extension), we retrieved price data of the Argentinean bonds that underwent restructuring in 2005. The sovereign debt restructuring in case of Argentina was a combination of maturity extension and principal haircut. Argentina defaulted on its international debt in November 2001 after a failed attempt to restructure the debt. The markets priced in the risk of a substantial haircut around this time and the bond prices plummeted sharply. We at BoomBustBlog are in the habit of taking market prices seriously, and have factored historical market reactions into our analysis in calculating prospective price action in distressed and soon to be Sovereign debt. Before moving on, it is highly recommended that readers review our haircut analysis for Greece (“With the Euro Disintegrating, You Can Calculate Your Haircuts Here”) and our more likely to occur restructuring analysis for the same (What is the Most Likely Scenario in the Greek Debt Fiasco? Restructuring Via Extension of Maturity Dates).
The restructuring of the Argentina debt in default was occurred in 2005 when the government offered new bonds in exchange of old securities. The government gave the option of either accepting A) a par bond with no haircut in the principal amount but substantially lower coupon and longer maturity or accept B) a discount bond with a haircut in principal amount to the extent of 66.3% but relatively better coupon rate and shorter maturity than in case of Par bond. If the bondholder accepted A), for each unit of bond, one unit of Par bond will be allotted. If the bondholder accepted B), for each unit of bond, 0.33 unit of Discount Bond will be allotted. The loss to the creditor, which is decline in the NPV of the cash flows, was nearly the same in both cases as the lower principal amount in Option B was offset by better coupon rate and shorter maturity. The price of the par bond in the market and the price of the discount bond multiplied by the exchange ratio (real price to the bond holder) were largely the same when they were listed in the market in 2005.
The IMF estimated the average haircut (decline in the net present value of the bond) was on an average 75% and the market priced in most of this haircut before the actual restructuring in Feb 2005. The prices of the bond in default declined nearly 65% between Feb 2001 and Feb 2005.
One should keep these figures in mind, for in the blog post "How Greece Killed Its Own Banks!"I ran through a much, much more optimistic scenario that wiped out ALL of the equity of the big Greek banks. Remember, the Greek government stuffed these banks to the gills with Greek bonds in order to created the perception of a market for them. As excerpeted...
Well, the answer is…. Insolvency! The gorging on quickly to be devalued debt was the absolutely last thing the Greek banks needed as they were suffering from a classic run on the bank due to deposits being pulled out at a record pace. So assuming the aforementioned drain on liquidity from a bank run (mitigated in part or in full by support from the ECB), imagine what happens when a very significant portion of your bond portfolio performs as follows (please note that these numbers were drawn before the bond market route of the 27th)…
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The same hypothetical leveraged positions expressed as a percentage gain or loss…
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When I first started writing this post this morning, the only other bond markets getting hit were Portugal’s. After the aforementioned downgraded, I would assume we can expect significantly more activity. As you can, those holding these bonds on a leveraged basis (basically any bank that holds the bonds) has gotten literally toasted. We have discovered several entities that are flushed with sovereign debt and I am turning significantly more bearish against them. Subscribers, please reference the following:
- Euro Bank Soveregn Debt Exposure Final -Retail
- Sovereign Debt Exposure of European Insurers and Reinsurers (Empty 2010-05-19 01:56:52)
To date, my work both free and particularly the subscription work, has shown significant returns. I am quite confident that the thesis behind the Pan-European Sovereign Debt Crisis research is still quite valid and has a very long run ahead of it. Let’s look at one of the main Greek bank shorts that we went bearish on in January:
nbg since research
NBG since research
Now, referencing the bond price charts below as well as the spreadsheet data containing sovereign debt restructuring in Argentina, we get...
Price of the bond that went under restructuring and was exchanged for the Par bond in 2005
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Price of the bond that went under restructuring and was exchanged for the Discount bond
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With this quick historical primer still fresh in our heads, let's revisit our Greek, Spanish, and Italian banking analyses (the green sidebar to the right), many of which are trying to push the 400% mark in terms of returns if one purchased OTM options at the time of the research release. It may be worthwhile to review the Sovereign debt exposure of Insurers and Reinsurers as well.
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