Thursday, January 19, 2012

Hedge Funds Going to Sue Greece?

Ekathimerini reports, Hedge funds considering legal action over Greek deal:

Hedge funds that hold Greek bonds and who are reluctant to voluntarily agree to the haircut being negotiated between Greece and private investors could appeal to the European Court of Human Rights, the New York Times has reported.

The newspaper reports that the funds would claim that their bondholder rights are being violated but this would be a lengthy project and there would be no guarantee of a payoff at the end.

“The tactic has emerged in conversations with lawyers and hedge funds as it became clear that Greece was considering passing legislation to force all private bondholders to take losses, while exempting the European Central Bank, which is the largest institutional holder of Greek bonds with 50 billion euros or so,” writes Landon Thomas Junior of the NYT.

“Legal experts suggest that the investors may have a case because if Greece changes the terms of its bonds so that investors receive less than they are owed, that could be viewed as a property rights violation — and in Europe, property rights are human rights,” adds the journalist.

The hedge funds stand to make more money if a default occurs. But they stand to gain something even without a default because of the credit protection they have purchased.

Credit Default Swaps, agreements that allow bondholders to collect the original value of a defaulted bond, were supposed to make holding Greek debt safer. But the prospect of the voluntary swap has rendered some of the contracts worthless, leaving investors out the initial fee they paid to purchase the agreements.

Investors holding CDS were supposed to be able to win in the Greek play no matter how it ends. Either they collect high interest rates from the Greek government, or -- if the government cannot repay the debt and has to default -- they collect the par value of the bonds they bought cheaply during the euro zone debt crisis.

The cost of buying CDS on debt issued by Greece and other European countries has risen steadily since the crisis began. That means investors who bought Greek debt lately had to pay dearly to hedge their exposure.

Since the debt swap is voluntary, it will not be considered a default. There will also be far less of a return on the bonds being swapped out, since the point of the swap is to dramatically lessen the debt burden on the Greek government.

More from the NYT article:

At the root of the dispute is a growing insistence on the part of Germany and the International Monetary Fund that as Greece’s economy continues to collapse, its debt — now about 140 percent of its gross domestic product — needs to be reduced as rapidly as possible.

Those two powerful actors — which control the purse strings for current and future Greek bailouts — have pressured Greece to adopt a more aggressive tone toward its creditors. As a result, Greece has demanded that bondholders accept not only a 50 percent loss on their new bonds but also a lower interest rate on them. That is a tough pill for investors to swallow, given the already steep losses they face, and one that would be likely to increase the cumulative haircut to between 60 and 70 percent.

The lower interest rate would help Greece by reducing the punitive amounts of interest it pays on its debt, making it easier to cut its budget deficit.

To increase Greece’s leverage, the country’s negotiators have said they could attach collective action clauses to the outstanding bonds, a step that would give them the legal right to saddle all bondholders with a loss. This would particularly be aimed at the so-called free riders — speculators who have said they will not agree to a haircut and are betting that when Greece receives its aid bundle in March, their bonds will be repaid in full.

If the collective action clause is used — and Greek officials say it could become law next week — these investors, who bought their bonds at around 40 cents on the dollar, are likely to suffer a loss.

That, in turn, could prompt suits from investors claiming in the Court of Human Rights that their property rights had been violated.

“Because Greece is changing the bond contract retroactively, this can become an issue in a human rights court,” said Mathias Audit, a professor of international law at the University of Paris Ouest.

Not all funds are pursuing such a strategy. Such a case would take years and would have to run its course in Greece before being heard by human rights judges in Strasbourg, France.

But with their considerable financial resources, some funds may be willing to pursue such a route, and they point to similar cases won by hedge funds in Latin America. While the prospect of Greece paying an investor any time soon is slim, the country wants to avoid a parade of lawsuits across Europe, which would restrict its ability to raise money in international markets.

Argentina, which defaulted on its debts in 2002, still faces legal claims from investors that have made it nearly impossible for the country to tap global debt markets.

“It cannot be Angela Merkel that decides who suffers losses,” said one aggrieved investor who was considering legal action and did not want to be identified for that reason. “What Europe is forgetting is that there needs to be respect for contract rights.”

Poor hedge funds, everyone hates them, including Germany which just cut its solar subsidies (OUCH! How dare they cut solar subsidies?!? Buy the dip on solars!!). In all seriousness, it indeed looks like Greece is on a CAC warpath as it faces its final battle in debt talks.

The highly respected Greek Economists for Reform published an article from Andreas Koutras on the PSI's enigma and a possible solution:

The Greek government is currently preoccupied with solving the PSI (Private Sector Involvement) enigma. Bringing the PSI to fruition is a precondition for receiving the next tranche of bailout funds from the EU, which is necessary to pay the bond maturing in March. Failing this and in absence of an alternative it would be very hard for Greece to avoid a disorderly default with unpredictable consequences both for Greece and the rest of Europe.

This article, written by guest contributor Andreas Koutras, briefly reviews the decisions and history that led to the current impasse. It further proposes a modification to the PSI that could significantly improve the chances of success and could also give Greece the necessary breathing space to effect economic change.

The proposal is within the realms of the EU council’s decisions and involves the voluntary sell back by the ECB of its holdings at cost and adding the option for private bondholders to exchange their holding for cash.
This would greatly increase the probability of a successful PSI without endangering the government bond markets or risk contagion and default.

Read the rest on Greek Economist for Reform

Charles Dallara and his troika team need to carefully review Andreas' proposal. Reuters reports on possible outcomes of Greek debt talks, but it's becoming increasingly clear that Greece may be forced into implementing the collective action clause.

Reuters reports, Greece, creditors move to breach gap as clock ticks:

Greece and its private bondholders inched closer on Thursday to a vital debt swap deal needed to avoid a messy default by Athens, with both sides saying progress has been made and negotiations would continue on Friday.

Nearly a week after talks hit an impasse over the coupon, or interest payment, that Greece must offer on its new bonds under the swap, there were signs the two sides were moving to overcome their differences as time to strike a deal runs out quickly.

"The atmosphere was good, progress was made and we will continue tomorrow afternoon," Finance Minister Evangelos Venizelos said after talks with Charles Dallara, head of the Institute of International Finance representing bondholders.

The IIF issued a statement echoing the minister.

Bankers and sources close to the talks say a deal could be wrapped up in the next few days, though previous predictions of a quick resolution have proven premature.

The stakes could not be higher this time. Greece must thrash out a deal within days to pave the way for a new infusion of aid that allows it to avoid bankruptcy when 14.5 billion euros ($18.5 billion) of bond redemptions fall due in March.

Even if a deal is struck rapidly, the paperwork will take weeks and Greece's official lenders, the European Union and the International Monetary Fund, say the work must be cleared before funds are doled out from a 130 billion euro rescue plan they drew up in October.

Turning up the pressure before Thursday's round of talks, Venizelos told lawmakers that a large chunk of the bond swap must be agreed by noon on Friday and formalized before Monday's meeting of euro zone finance ministers.

Kept afloat by bailout loans, Greece faces the threat of having to leave the euro zone and slumping into further economic and social misery if it fails to come to grips with its debt, including securing the deal with the private bond holders.

"Now is the crucial moment in the final battle for the debt swap and the crucial moment in the final and definitive battle for the new bailout," Venizelos told parliament. "Now, now! Now is the time to negotiate for the sake of the country."

Progress had been hard to come by in the latest round of discussions, with bankers worried about being hit by losses far higher than the 50 percent writedown they were expected to take on the nominal value of their bonds.

A source close to the talks said earlier that Athens and its foreign lenders had offered a coupon of just over 3.5 percent during a two-hour meeting on Wednesday, but bondholders rejected that as too low. They were angling for a coupon of at least 4 percent, the source said.

One banker briefed on the talks said progress was made on minor points related to the structure of the deal and the law it would fall under, but the coupon remained a sticking point.

The two sides were roughly one percentage point apart in their demands on the coupon as talks restarted on Thursday.

Some analysts think that regardless of what happens in these debt talks, Greece will default in March and contagion will spread throughout markets. Below, Andrew Lilico, managing director at Europe Economics, talks about the timing of a Greek debt default and the prospect of contagion in the eurozone. Lilico also discusses Spanish and Italian bonds with Mark Barton on Bloomberg Television's "The Pulse." I think he's way off, if Greece defaults, chaos will ensue.

I also embedded an interview with Hans Humes, president of Greylock Capital Management, talks about negotiations between the Greek government and private creditors over a debt accord. He speaks with Andrea Catherwood on Bloomberg Television's "Last Word." Mr. humes is “cautiously optimistic” the talks are heading in the right direction.

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