CDS conspiracy theory du jour, Gretchen Morgenson edition

By Felix Salmon
November 20, 2011

Why oh why does Gretchen Morgenson insist on writing about credit default swaps as though she understands them? She’s done it again today, with an article about Greece which ratchets the conspiracy theorizing up to frankly bonkers levels:

The money managers with whom I spoke said BNP Paribas seemed to be motivated either by its desire to generate fees from the exchange or, perhaps, by worries about its own exposure to Greece. They wondered, for instance, if BNP Paribas has written a lot of insurance on Greek debt. If so, getting people to unwind such swaps now would be less costly for BNP than having the insurance pay off.

Note the levels of deniability here: if you look at how BNP’s actions “seem” to be motivated, they are “perhaps” being driven by BNP’s own exposure, which could be reduced “if” it has a lot of CDS exposure to Greece. And, of course, the whole thing is wrapped up in its own invisible quote marks — it’s all the opinion of anonymous money managers, without Morgenson giving us any indication at all of why we should be listening to them in the first place, or what their conflicts might be.

(There is actually a truth to the matter, here, as Peter Thal Larsen points out: BNP Paribas had €5 billion of direct exposure to Greek debt at the end of 2010, and a mere €0.1 billion of indirect exposure.)

The other explanation of BNP’s actions in this passage is simultaneously obvious and very weird: the bank, says Morgenson, might be “motivated by its desire to generate fees from the exchange”. Which is pretty much the most prejudiced possible way of saying, simply, that BNP has a job to do, and it’s doing that job.

BNP, you see, has been hired by the government of Greece to gin up interest in Greece’s bond exchange and try to ensure it goes smoothly. That’s a smart move by Greece, because BNP is one of the largest holders of Greek government debt. And this is quite an elegant way of Greece ensuring that BNP, rather than having to be persuaded to go along with the deal, will in fact be trying to persuade everybody else to go along with the deal.

But that obvious and true explanation of what BNP is doing isn’t good enough for Morgenson, who instead indulges anonymous money managers in flights of fancy about how BNP might have “written a lot of insurance on Greek debt”. There’s no evidence for this whatsoever — and I don’t believe for a minute that it’s true. In fact, I can’t think of any bank which has ever amassed a significant long position in any given name, through the CDS market, for any significant length of time. The poster children for that kind of misbehavior were the big insurers, including AIG, who ended up with long positions in highly-bespoke CDS. The closest thing I can think of at a bank was Howie Hubler’s disastrous mortgage-bond trade at Morgan Stanley, where a relative-value play blew up in his face. But the one thing all those blow-ups had in common was that their long position was in super-senior debt which was considered ultra-safe.

And in any case, if BNP had indeed written a lot of protection on Greece, it’s very hard to see how (a) it could manage to get the Greek government’s mandate because it had that position; or (b) how having the mandate would actually help the bank at all with respect to its position. Morgenson makes a very big deal out of the fact that one of the BNP bankers — Belle Yang — is on ISDA’s determinations committee for Europe, and can therefore help influence whether Greece’s CDS pay out or not — but that would be the case whether or not BNP had the mandate.

What’s more, Morgenson is objecting to some extremely unexceptional statements by Yang. Here’s Morgenson:

The BNP Paribas bankers have been telling bond holders that their credit insurance may not pay off down the road, because after the restructuring is completed, the terms of the old debt might be changed, these money managers said.

Normally, investors would shrug off such an argument…

According to one of the money managers, Ms. Yang told the investors that one potential hitch would be if Greece were to change the terms of its old bonds…

If investors think debt terms can be changed by fiat, they will flee the market. Ditto if they find that their insurance can be made worthless. Indeed, some of the volatility in European debt recently may be attributed to investor fears about these issues.

Morgenson’s saying, here, that it’s unthinkable for Greece to unilaterally change the terms of its old bonds, and that no one even considered such an eventuality until recently, when “some of the volatility” we’ve been seeing of late might be a result of investors suddenly realizing that it’s possible and that one of the ISDA committee members might somehow allow it to happen.

This is ludicrous. Everybody knows that Greece can and should take some kind of tactical advantage of the fact that most of its debt has been issued under Greek domestic law. Never mind the fact that a BNP banker sits on an obscure ISDA committee: why not look instead at what’s been written by the dean of sovereign-debt lawyers, Lee Buchheit, on this very subject? Buchheit works for Cleary Gottlieb, and is working directly for the Greek government. And more than 18 months ago he laid out Greece’s options very clearly, in a paper which was posted freely on the internet and which has been downloaded thousands of times, not to mention being passed around in PDF or printed-out form to pretty much everybody who’s involved in making decisions about Greek bonds. Yang, it turns out, was saying nothing which Buchheit wasn’t saying in May 2010:

The greatest advantage that Greece would enjoy in a restructuring of its debt derives from the fact that so much of the debt stock is expressly governed by Greek law. This raises the possibility, discussed in more detail below, that the restructuring could be facilitated in some way by a change to Greek law…

International investors are often leery of buying debt securities of emerging market sovereign issuers that are governed by the law of the issuing state. Why? Because investors fear that the sovereign might someday be tempted to change its own law in a way that would impair the value or the enforceability of those securities. Such changes in local law would normally be respected by American and English courts if the debt instruments are expressly — or otherwise found to be — governed by that local law.

Buchheit proposes one action that Greece could take — a “Mopping-Up Law” which would essentially change the payment terms on untendered bonds so that they were the same as the payments being received by bondholders who tendered into the exchange. There are many others: a sovereign country can change its own law pretty much any way it likes. And although there would surely be legal challenges if it tried to do so, I don’t think there’s anybody who’s optimistic such challenges would succeed.

If there were any investors out there, 18 months ago, who didn’t realize that Greece’s debt terms can be changed by fiat, there weren’t any after Buchheit’s paper came out. So when Morgenson says that investors “will” flee the market when they work this out, she’s at least 18 months behind the curve. And indeed one of the big reasons why Greece’s debt is held overwhelmingly by banks rather than by institutional bond investors is precisely this one.

More generally, Morgenson’s simply wrong when she says that the treatment of CDS is a “a big point of contention” in this restructuring. She’s been talking to an unknown number of “investors” and “money managers”; the only one she names is David Kotok, of Cumberland Advisors. But as everybody involved in the Greece deal knows, institutional investors in general, and American institutional investors in particular, are essentially an afterthought here; the deal will succeed or fail based entirely on the degree to which it’s embraced by Europe’s banks.

The funniest part of Morgenson’s article is this:

Investors who own Greek debt and have bought insurance on it, in the form of credit default swaps, wonder why they should accept the offer that’s on the table…

The discussions with BNP Paribas confirm the view of some investors that credit default swaps are not insurance at all.

Does Morgenson really believe that CDS is an insurance product and used that way by investors? That there’s a bunch of bond investors out there who bought Greek bonds, and then, rather then selling those bonds, bought protection on them instead, using that protection as insurance against a bond default?

The truth of the matter is that the set of “investors who own Greek debt and have bought insurance on it, in the form of credit default swaps” is utterly minuscule, and that every single member of that set is a highly sophisticated player who knows all about issues surrounding Greek domestic law and the potential problems with this kind of basis trade. The last thing that any of them need or want is Gretchen Morgenson going to bat for them on the front page of the Sunday business section of the NYT. And their plight is certainly not of interest to the NYT’s readership as a whole.

Update: Just when you thought this whole thing couldn’t get any sillier, it now emerges that BNP might not actually be advising the Greek government after all! Athens News reported on November 6 that Greece “has terminated its collaboration” with BNP, Deutsche Bank, and HSBC.


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Oh, Felix…Gretchen is more of a man–and, yes, a journalist–than you could ever hope to be. And we’re still waiting for your apology to Egan.

Posted by Taguba | Report as abusive

I stopped reading Gretchen Morgenson a long time ago due to her penchant for seeing conspiracies and malicious motives behind normal financial transactions. The worst are the NYT page 1 collaborations between her and Louise Story. The standard has a far-reaching conspiratorial headline with almost no substance backing it up.

Posted by ZJA | Report as abusive

Setting aside the merits of her underlying argument, your criticism of the underlying journalism seems a bit unfair. What’s wrong with hedging her comments with words like perhaps–would you prefer she state with certainty something that could be wrong, as most journalists do? Further, what’s wrong with talking to a number of sources and drawing some conclusion from that? Should rather be a one of the coward journalists that blindly quotes a single source and than when it’s wrong just attributes it to the “objective” delivery of news.

Posted by AngryKrugman | Report as abusive

Setting aside the merits of her underlying argument, your criticism of the underlying journalism seems a bit unfair. What’s wrong with hedging her comments with words like perhaps–would you prefer she state with certainty something that could be wrong, as most journalists do? Further, what’s wrong with talking to a number of sources and drawing some conclusion from that? Should rather be a one of the coward journalists that blindly quotes a single source and than when it’s wrong just attributes it to the “objective” delivery of news.

Posted by AngryKrugman | Report as abusive

Felix, I think you’re being a bit harsh. There are flaws in Gretchen Morgenson’s piece but, inter alia, she has exposed a massive conflict of interest in the dual role of Belle Yang.

Posted by IanFraser | Report as abusive

Perhaps the bondholders should be aware there’s a chance of Greece changing the law, and shenanigans at ISDA.

However, for a banker and ISDA person to tell bondholders if they don’t take the haircut, there will be shenanigans at ISDA seems a mite unseemly.

At a minimum, having been engaged by Greece to deliver this message, BNP should have to be recused from ISDA proceedings regarding Greece.

Posted by Curmudgeonly | Report as abusive

I basically stopped reading her, for exactly the reasons/examples you have cited. With the bully pulpit she has at the NYT, I could never understand why she was often sloppy, and at time just flat out wrong.

Posted by datascientist | Report as abusive

As part of the swap, the new 30 year bonds will no longer be held under Greek law. That needs to be noted both by Morgenstern and Reuters.

Posted by DanAllen | Report as abusive

You’re my fave, my hero, Felix, but this line:

“And their plight is certainly not of interest to the NYT’s readership as a whole.”

is a strange argument, one you don’t need, and one that you can’t support.

Can you defend every thing you’ve published in the past year (month, week) on the basis of its being of interest to Reuters’ readership as a whole?

Should you be asked to?

How many dissidents have been muzzled with language like that?

I’m not defending Gretchen’s article (I don’t have the competence to judget it, and I highly respect yours), but this final phrase undermines you, by painting you as emotional. Wanting to hurt.

This is, however, a rare blip in your brilliant career. Your output is usually informative and entertaining. Exceedingly well written.

Thanks for it all.

Posted by gsignoret | Report as abusive

@IanFraser — what exactly is Yang’s conflict here? I have to say I don’t see it.

Posted by FelixSalmon | Report as abusive

As a “highly sophisticated player”, I find it highly disturbing that a member of a supposedly impartial ISDA committee is using her position to influence investors’ actions, whatever her motivations may be. Whether this belongs on the front page of the NYT is arguable, but Morgenson deserves credit for breaking the news. Will be interesting how the ISDA blog spins this.

Posted by prk11 | Report as abusive

I have read your review of Morgenson’s piece and, on due consideration, believe that you didn’t like it, Felix.

Posted by ottorock | Report as abusive

Because she sits on the IDSA “determinations committee” that will decide what constitutes a “credit event” in both Greece and elsewhere in Europe, at the same time as being part of the BNP Paribas team appointed by the Greek government to help persuade investors to accept circa 50% haircuts on their bonds. A third conflict arises since BNP Paribas is, I believe, one of the biggest holders of Greek government debt, with about €5bn worth. Presumably in role 1, Yang has a vested interest in avoiding a “credit event”, as she does in role 2 (though for different reasons), but in role 3?
see also:- u-cover-up-your-failure-the-greek-case

Posted by IanFraser | Report as abusive

It has been widely reported that the BNP contract with the greek govt. was ended in late october, (you would never guess that from the Morgenson piece). (I posted a link on twitter about this)
In addition, BNP has no material net position in greek CDS and no incentive either way for or against a default, also BNP has taken a large hit reflecting a 60% haircut on its greek bond holdings (more than €2.5 bln) , all of this is public knowledge but again none of this is mentioned by Morgenson.
And Poor “Belle Yang” is allegedly sitting on the ISDA DC, big deal! BNP doesn’t run ISDA, it’s certainly much better for investors to hear about what could happen from a DC member rather than from some ultracrepidarian at the NYT.

Posted by alea | Report as abusive

Thanks @alea_

Posted by IanFraser | Report as abusive

Face it Felix, Gretchen is much more pleasant to watch on video than you.

Posted by ARJTurgot2 | Report as abusive

I agree that it’s unseemly if a member of an ISDA committee is browbeating parties to accept a “voluntary” restructuring by making a veiled threat that CDS may not be triggered. The broader question, however, is then whether any employee of a large financial institution should be on these committees. After all, in any sizable default one it’s essentially inevitable that a large money center bank or investment bank is going to have some financial interest, whether a long or short position.

Posted by realist50 | Report as abusive

alea, she gets these details wrong so often one has to wonder if it is stupidity, ignorance, carelessness or whether she is actively fabricating the stories.

Posted by Danny_Black | Report as abusive

Gretchen Morgenson is an idiot, pure and simple. She exhibits, at best, a rudimentary understanding of the things she writes about, but in this climate of “Wall Street is Evil” she’s made a name for herself (and a nice living) inventing scandals and imagining misconduct. I can’t read her anymore – I’m a die-hard liberal and I’m really close to canceling my NY Times subscription just so I won’t have to see her byline anymore.

Posted by LCWDC | Report as abusive