Bloomberg News

EU Says Investors Who Swap Greek Bonds Benefit From Lower Risk

October 27, 2011

(For more on the European debt crisis, see EXT4.)

Oct. 27 (Bloomberg) -- Bondholders who take part in a European debt swap and rescue package for Greece will have much safer investments after the exchange takes place, European Union officials said.

European leaders agreed on the outlines of a new bond- exchange plan early today after marathon negotiations on how to provide more aid for Greece and increase the EU’s crisis- fighting resources. European leaders agreed to boost the European Financial Stability Facility’s firepower to one trillion euros ($1.4 trillion), set aside 100 billion euros for Greece, and provide 30 billion euros in collateral for the debt swap.

The new deal is much clearer than an earlier bond exchange envisaged in July, EU officials told reporters. There’s only one option, instead of a menu, and the agreement specifies the face- value loss investors will need to accept instead of trying to estimate reductions in the net present value of bonds on bank books.

Private investors who take part will exchange their existing Greek bonds for new ones at 50 percent of face value. At the same time, the risk associated with the new bonds will be shared between the Greek government and a AAA-rated issuer, such as the revamped EFSF.

Sharing Risk

This means investors will be less exposed to the risk of a Greek default, the officials said. Many details are not yet settled, such as the maturity and interest-rate terms of the new bonds, and whether they’ll be governed by U.K. law, as the banks want, or Greek law, as most of the existing bonds are.

Still, the outlines of the new deal are set, the officials said. A participating investor could, for example, exchange $100 in old Greek bonds for $50 in new Greek bonds, comprised of $15 backed by the AAA collateral and $35 backed by the Greek state.

Greece will have a lower debt burden if the new deal is carried out, the officials said. And, they said, investors probably will see the net present value of their holdings decrease by more than the 21 percent of the July deal, as EU leaders had sought.

“The debate on Greece has finally moved in the right direction,” said Guntram Wolff of the Brussels-based Bruegel research institution, in a policy note. “The 50 percent haircut offers a chance of finding a viable solution for Greece.”

Technical Default

The terms of the new debt swap were hammered out by EU leaders and the Institute of International Finance, a Washington-based trade group that represents about 450 global banks. Charles Dallara, the group’s managing director, said that the accord averts disaster by limiting the scope of Greek default to a temporary period that can be planned for and managed, instead of an uncontrolled and disruptive credit event.

This period of so-called selective default will probably be quite short, EU officials said. They said European governments will provide temporary credit enhancements to the European Central Bank during this period, to make sure the ECB can continue providing liquidity to banks whose holdings may be affected.

Under the terms of the July deal, euro-area states agreed to provide the ECB with up to 35 billion euros in Greek debt guarantees during a possible default period. Officials said today that the level of available support would probably be similar, if a selective default should take place.

Triggering Swaps

The International Swaps & Derivatives Association will decide if credit-default swaps on Greek debt should pay out depending on whether it judges losses to be voluntary or compulsory. Credit-default swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent in the event that a borrower fails to adhere to its debt terms.

The new debt swap agreement appears to be voluntary and there wouldn’t be a credit event, said David Geen, the group’s general counsel, meaning $3.7 billion of debt-insurance contracts won’t be triggered, according to ISDA’s rules. Geen was speaking on Bloomberg TV’s “Inside Track” today.

EU officials said their goal is to complete the debt swap by the end of the year. The new package for Greece will be in addition to a 110 billion-euro package approved last year, and that all of the remaining funds from that program can still be tapped, they said.

--Editors: Andrew Davis, Alan Crawford

To contact the reporters on this story: Rebecca Christie in Brussels at rchristie4@bloomberg.net; Jim Brunsden in Brussels at jbrunsden@bloomberg.net;

To contact the editors responsible for this story: James Hertling at jhertling@bloomberg.net; Christopher Scinta at cscinta@bloomberg.net


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