Why Greece has the upper hand

By Felix Salmon
January 20, 2012
Stephen Fidler makes a good point today: the difference between a "voluntary" exchange and a "coercive" exchange, when Greece finally puts an offer to its creditors, is largely semantic.

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Stephen Fidler makes a good point today: the difference between a “voluntary” exchange and a “coercive” exchange, when Greece finally puts an offer to its creditors, is largely semantic. Or, to put it another way, the only real difference is that in a voluntary exchange, you have the IIF’s Charles Dallara saying nice things about the Greeks, while in a coercive exchange, you have the IIF’s Charles Dallara saying nasty things about the Greeks. But the fact is that precious few bondholders who are going to change their vote based on what Charles Dallara thinks.

Most of the bondholders are European banks, and as Fidler says, European banks are subject to “moral suasion” — having their arms twisted by their national governments — which is much more likely to affect their final decision than the official judgment of Dallara. Meanwhile, an increasing proportion of the bondholder base is made up of hedge funds, who certainly don’t care what Dallara thinks.

Landon Thomas reports that the two sides are getting closer to agreement; the sticking point seems to be the coupon on the new bonds, and the likely outcome, on that front, is likely to be just below 4%. No word on the governing law of the new bonds, though I suspect that Greece will go along with doing the market-friendly thing of issuing its new debt in London.

The reason why none of the negotiations really matter very much is, as Fidler says, that “if they don’t agree, the holdouts will have the ‘voluntary’ deal forced down their throats”. Greece is going to bolt collective action clauses onto its outstanding bonds — and use those clauses in what’s known as a “cram down”: the minority has to do whatever the majority wants.

Now with most collective action clauses, this would be non-trivial. Often these clauses require a large supermajority of bondholders to agree before the CAC is triggered — 85%, say. And they’re generally done on a bond-by-bond basis, making it much easier for a hedge fund to build up a blocking stake in one bond.

But Greece is in the very nice position of being able to craft its CACs now, rather than at the time the bonds were issued. As a result, it can set the CAC threshold very low, if it wants, and it can also draft them so that the percentage which matters is the percentage of all bonds tendered into the exchange, rather than the percentage of any individual bond.

All it needs to do then is have a quiet word with the technocrats at the EU, who have a very good idea how much moral suasion they can wield. Greece has a pretty good idea what the minimum take-up of any exchange offer is likely to be. And it just needs to set its CAC level at or just below that minimum take-up level.

Of course, the lower the CAC level, the more coercive the Greece exchange will be considered. If the CACs are set at 85%, the deal will be “voluntary”; if they’re set at 51%, it will be highly coercive. But either way, the deal will get done. And Greece has absolutely nothing to worry about with respect to hedge funds threatening to sue the country in the European Court of Human Rights. Good luck with that one, guys, you’re going to need it.

The only real risk for Greece, as I see it, is that its offer is so bad that less than 51% of bondholders tender into the exchange: you can’t set a CAC below 50%. But I doubt we’ll see that. Banks hate holding defaulted debt. Greece is going to offer them a choice, between holding defaulted debt and holding new instruments which are paying in a timely fashion. When push comes to shove, the banks are going to take the new instruments. Whether Charles Dallara likes it or not.


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Bankers! :( Stupid is as stupid does … and them bondholders were stupid to invest in the first place in what it don’t take a rocket scientist to know ain’t goin’ nowhere in a hurry. I say let’em eat crow!

Posted by JuddJugmonger | Report as abusive

I think you forget one thing in your analysis, Felix. Whatever Greece does will have a huge effect on the other PIIGS, and the EU technocrats are acutely aware of that. There’s a limit to what you can force on the market. In addition, wouldn’t CACs also affect the ECB, national Eurozone central banks and the IMF (to the extent they hold Greek bonds) equally? Whatever the outcome, the higher the haircut, forced or voluntary, the higher funding costs will become for the others. Simple, really.

Posted by Abulili | Report as abusive


The cac’s matter not at all. They are a retroactive change to an existing contract without consent. Remember that all the comming court battles will be waged internationally… Athens retroactively changing the rights of individual bondholders is no different than retroactively changing the outstanding face value, maturity, or coupon.

Look for the small greek bond holders to take a haircut, the European banks will take the haircut with the blessings of their national goverments. The international bond funds and hedge funds will all reject the new terms and fight it out in court.

Anyone who bought at par, who rejects the deal will still take a hit… but a smaller hit than than the Euro banks and Greek holders. Those deals will be done quietly and settled at least a year after the big swap in March. The sharks buying at 40c/dollar will make money… and the few lucky soles with CDS will get paid in full.

Perhaps most interesting will be what happens to Pimco. They are not exactly a European bank but they are owned by one of Europe’s largest financial institutions. I’d love to be a fly on the wall in their investment meetings!

Posted by y2kurtus | Report as abusive

Today on public radio, Pimco was reported to have unloaded most of their Greek and other high risk Euro debt already. Even so, the water cooler conversations would certainly be interesting.

Posted by breezinthru | Report as abusive

Zerohedge has replied to your “verbose” article with a 500,000 word treatise, why they bother is anyones guess.

Posted by Aaronzebaron | Report as abusive

Any realistic discussion of Greece’s problems has to focus on how Iceland is side-stepping Europe’s plummet into a deep recession or depression by following the true capitalist’s model of allowing its insolvent banks to fail and go bankrupt. With less than two years of pain and suffering, Iceland is emerging as the new growth leader in Europe by reporting a red-hot 4.7% economic increase last quarter. Perhaps it is time for Europe to also accept the inevitable and start letting ludicrously over-indebted countries and their banks in Portugal, Ireland, Italy, Greece, and Spain (PIGS) default and restructure their financial condition in order to return to growth.
When the “Great Recession” began in 2008, every country in Europe gave sovereign guarantees to their banks, except Iceland. All three of Iceland’s major banks suffered losses equal to over 50% of the nation’s Gross Domestic Product. Over the next year, the financial crisis devastated the Icelandic economy. Krona, the national currency, fell by 44% against the euro, inflation rose 18.6%, market capitalization of the Icelandic stock exchange dropped by more than 90%, gross domestic product fell by 7%, while unemployment rose from 2% to 9%.
Iceland, a fishing colony of Denmark for 600 years, achieved its independence in 1944. Over the next 40 years the country adopted a highly-regulated and tax financed Scandinavian social welfare model around its predominant fishing industry. Fourteen families, often referred by locals as the Octopus, controlled imports, transport, banking, insurance, fishing and supplies to a large Nato naval base. The local, state-owned banks were effectively run by the two dominant left wing and center political parties. Ordinary people were forced to go to party functionaries for loans to buy a car or to acquire foreign exchange to travel abroad.
In the 1980s, a popular uprising of Iceland citizens called the Locomotive Group took political power and forced privatizations of government activities and banking in the mid-1990s. In 2004, the Prime Minister, with virtually no experience outside of Iceland, had himself installed as governor of Iceland’s Central Bank.
The privatized banks merged investment banking with commercial banking, so that both shared government guarantees. Powered by a very low level of sovereign debt, which gave the banks high marks from the international credit-rating agencies, the three major Icelandic banks began taking international deposits and provided loans of 90% of appraised value for real estate. Iceland lowered income tax and VAT rates to turn Iceland into a low-tax international financial center. City planners aimed to move Reykjavik from an ordinary city to that of a world financial capital. Despite its small population of 110,000 the city built grandiose new public and private buildings, saying “If Dubai, why not Reykjavik?”
By 2006, tiny Iceland managed to enter the bank big-leagues, sporting three of the world’s largest 300 banks. Local bankers made large financial contributions to the governing parties and giant loans to key politicians to avoid regulatory support. The super-abundance of cheap credit allowed people to extravagantly consume and the resulting economic boom drove the stock market up by 900%. Government spending ballooned as Iceland’s current account deficit soared from 5% of GDP in 2003 to 20% by 2006, one of the highest in the world. The leading Icelandic champion of free-market economics declared in The Wall Street Journal that Iceland’s: “experiment with liberal policies is the greatest success story in the world”.
When the Credit Crisis hit in 2008, the banks quickly collapsed. But when the dust cleared from the crash, it turned out that a majority of the Icelandic bank depositors were British and Dutch citizens and government entities. When the Icelandic government under tremendous pressure from the International Monetary Fund started to make preparations to guarantee the losses of foreigners, the population rioted and forced referendums on approving the government bail-outs. In what has become known as the Kitchenware Revolution. Iceland’s citizens turned down two referendum attempts by majorities of 93% and over 60%. The banks were liquidated and the foreign and big dollar depositors were forced to take percentage losses.
The Icelandic use of referendums to offer citizens the right to vote on guaranteeing failed bank losses compares to the European Monetary authorities’ imposition of austerity policies on the highly indebted PIIGS to bail-out speculators, northern European banks, and the IMF. As the populace of these nations become debt slaves, the Financial Times commented that the European sovereign debt bail-outs: “put citizens before banks”.
Iceland is proving that capitalism with both its upside joy and downside pain seems to be better than the social welfare state’s crony willingness to rescue its friends at the long-term expense of their citizens. Free market economist Friedrich August von Hayek said: “Emergencies’ have always been the pretext on which the safeguards of individual liberty have been eroded.” As the good people of Iceland watch Europe spiral down, they can only shake their heads and wonder why the people could be so dumb as to let their governments cause such damage.
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Posted by OCMoneyMan | Report as abusive

Actually, Greece has no power in these talks. He who pays the band calls the tune. That’s Germany.

Greece is in the role of technical negotiator. It has been given a budget, and told to negotiate the highest acceptance rate possible within the confines of that budget.

The IIF understands this and doesn’t bother to ask Greece for more money. It knows only Angela can authorize that. That was the point of walking out of talks last week. To pressure Angela at the last minute. Apparently it didn’t work. All that is left now is for the IIF to work with Greece’s technical negotiators within the given budget. I guess the take-up rate will be in the 70s.

There probably will be retroactive CAC clauses on the Greek-law bonds. Or the hold-outs will simply be stiffed. You’re wrong to be so dismissive of the hold-outs’ chances of winning bigger payoffs by fighting in court. Banks won’t want any part of that but some vulture funds surely will, and they might very well succeed.

Posted by tom_the_bear | Report as abusive

In fact I would not be surprised that the negotiators ostensibly representing Greece in these talks are not even Greeks, but some foreign experts that the Greeks were “recommended” to hire.

Posted by tom_the_bear | Report as abusive

zerohedge’s romp into the future can be distilled into one paragraph:

(quote) “Yet the biggest concern once again, is that Greece does in fact go ahead and do something unprecedented, such as force all bondholders, not just the Greek-law ones, to be crammed down into a new issue … how many protections would immediately be rendered worthless, and why sovereign bondholders everywhere, not just those with local law indenture, but UK, are following all updates out of Athens very closely.”

Yes, we really don`t know the outcome, but can shed a lot of words guessing …

And going ahead with “cramming” was the nub of Felix’s article.

Posted by scythe | Report as abusive