Greece’s proposed 75% haircut

By Felix Salmon
December 15, 2011

One of the most important parts of Greece’s restructuring deal — the agreement with its private creditors over what’s going to happen to its bonds — is still very much up in the air. The idea was originally that there would be an agreement by the middle of next week, but no one’s holding their breath, and it now seems as though it won’t be until the end of January at the earliest before any deal is done.

The banks, unsurprisingly, aren’t in any rush to do a deal: they only just hired representation. But the official sector, too, Greece itself included, seems more interested in playing hardball than in getting agreement.

The banks have agreed, pretty much, that they’re going to be OK with a deal where they get 50 cents on the dollar. But that’s just the beginning, not the end, of the negotiations. Because the 50-cent number applies only to the nominal principal amount on the bonds — the amount that Greece will eventually repay, many years down the line, assuming it doesn’t default again. What’s equally important is the size of the coupon that the new bonds carry. And Greece has reportedly decided that if it’s going to restructure, it’s going to restructure right — by slashing the income associated with the bonds to such a low level that when they start trading, each $1 in old bonds is going to be worth just 25 cents on the open market.

This is called the “NPV haircut” — and if you’re a holder of Greek bonds, it’s the main number that you care about, since it determines how much your new bonds are worth. The nominal haircut is important, too: since banks hold most Greek debt, and can keep that debt on their books at par, they might well be able to say that the new bonds are worth 50 cents, for regulatory purposes, rather than the 25 cents they’d get if they sold them. But you can be quite sure that they will be fighting very hard to minimize the size of the NPV haircut in negotiations this week.

From Greece’s point of view, if you’re going to default then it makes all the sense in the world to maximize the haircut involved: the cost of default is constant, while the benefit increases steadily the lower your total future debt burden.

On the other hand, Greece also needs to get the banks to agree to an exchange, because a “voluntary” agreement, where the banks tender their old bonds in exchange for new ones, is much less painful and disruptive than a simple repudiation, where Greece just stops making its interest payments on the old bonds until the banks cry uncle and accept anything that Greece wants to give them.

So the negotiations are likely to be very tough indeed. And I’m glad that the professionals are taking over to represent the buy-side here: up until now, the banks have been represented by a trade organization, the IIF, which couldn’t really commit them to anything and which always wants to appear statesmanlike. When negotiations get tough, you want someone fighting your side hard, rather than someone grandly proposing compromises all the time.

At the same time, it’s in no one’s interest for these negotiations to drag on too long. The longer that Greece waits, the less faith the international community — and the markets — will have in its ability to extract itself from its current fiscal crisis. And the higher the discount rate that the market will apply to Greece’s new bonds.

What that means in practice is that Greece’s NPV haircut is growing by the day, even — especially — if the negotiations go nowhere, just because the discount rate used to determine it has been steadily rising. 75% seems like a big number now. But if and when it finally gets formalized in 2012 some time, it might seem much more reasonable.

More From Felix Salmon
Post Felix
The Piketty pessimist
The most expensive lottery ticket in the world
The problems of HFT, Joe Stiglitz edition
Private equity math, Nuveen edition
Five explanations for Greece’s bond yield
Comments
6 comments so far

” And I’m glad that the professionals are taking over to represent the buy-side here: up until now, the banks have been represented by a trade organization, the IIF, which couldn’t really commit them to anything and which always wants to appear statesmanlike. When negotiations get tough, you want someone fighting your side hard, rather than someone grandly proposing compromises all the time.”

Yes, we wouldn’t want those poor wide eyed innocent bankers to be taken advantage of by the dastardly Greeks.

Posted by chris9059 | Report as abusive

yes, i said this would be the greek politician’s agenda – 75% haircut, still borrowing profusely, no reforms, no asset sales

fakelaki economics still rules that government

Posted by scythe | Report as abusive

Excuse stupid question, but who recapitalizes the Greek banking and pension sectors after they lose 75% of the value of everything they have invested in Greek government bonds, and is that recapitalization expense accounted for in any Greek government budget that anyone has seen?

And when you say “The banks have agreed, pretty much, that they’re going to be OK with a deal where they get 50 cents on the dollar,” are you certain that you are including Greek banks in the group of banks who are “OK”?

Posted by johnhhaskell | Report as abusive

a 75% haircut on the debt of a 1st world democratic nation… that is stark raving lunacy. If memory serves me the Russians managed better than that!

Once you go past 50% NPV why not go the whole way? Why not just exchange all your existing bonds for new ones that pay 2% and are due in 100 years.

Why on earth would Germany or France support any plan that lets the Greeks off so easy? Don’t the Greeks need additional loans to fund their 2012 budget? If they aren’t going to make even a token effort to meet even HALF of their obligations then why should the Eurozone help them at all on a going forward basis?

I’m beginning to think the creditor group should annex a few islands and sell them to the Turks.

Posted by y2kurtus | Report as abusive

@y2k – Russia didn’t even default on their eurobonds. They imposed a rather complicated restructuring on the domestic debt and your recovery varied enormously depending on what paper you took and how long you held it.

Posted by johnhhaskell | Report as abusive

Hm, didn’t Felix say that there is 0% chance of banks accepting 50% voluntary haircut? No “mea culpa”?

Posted by Developer | Report as abusive
Post Your Comment

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/