Greek Full On Default No, Triggering Credit Swaps....YES

Uncontrolled Default Unlikely

Today the Institute for International Finance reported, through Reuters, consequences of a “disorderly” Greek default. Its report details a litany of apocryphal horrors. Where complete default by Greece on some 177B euros of bonds is unlikely, also unlikely is complete compliance with all Greek bond investors accepting a 53.3% reduction in their investment. More likely is an orderly default....with many implications.

Full blown default shades off in likelihood with  Greece having the “Collective Action Clause” (CAC) to create demand for a 53.3% cut in bond principle. Knowing that investors wouldn't like a 53.3% reduction on investment, Greek legislators approved CAC. CAC permits the nation to hold all bond holders to the cuts if 2/3 of a voting quorum of 50% of bond holders approve cuts. Based on estimated figures, 58.4B euro worth of Greek bonds must express agreement to allow activation of CAC terms.

Nearly all major news outlets reported today acceptance of the cuts by 12 out of 13 steering committee members of the Institute of International Finance (IIF). IIF negotiated Greek bond cuts on behalf of private bond holders with officials. 12 of the13 members result in a reported 40B euros of Greek bond voting power.

A deficit of support seems indicated with IIF members alone. But add the accepting IIF members, with support of Greek and closely associated banks, the value of acceptance is at 60B euros. Enough to prevent calamitous default, but not enough to avoid a CAC trigger.

CAC Activation, Activate Credit Default Swaps

To avoid CAC, it appears that enough magnanimous bond holders must agree to cut a total Greek bond debt of 177B euros in at least half, some long cry from current support. Present known support is only 60B at most. Not enough to avoid CAC, still enough to avoid all out default.

Bottom line; CAC imposition gets the demanded cuts to accomplish 50% plus cuts in Greek bond debt; which frees up bailout money to Greece from IMF and Euorzone resources; all needed to meet a March 20^th 14.5B euro bond payment.

So....appearances are that CAC will be involuntarily imposed upon investors....Unless the magnanimous crowed shows up before Thursday. Noted on Sunday in “Markets Hinge on Greece, March 8” is how CAC is likely to cause Credit Default Swaps (CDS) to be executed and paid.

Involuntary default by Greece is the most likely scenario, through the CAC provisions of Greek bonds. Consequences of any involuntary default were revealed in a decision by International Swaps and Derivatives officials. They gave confident indications that involuntary cuts to investors imposed by CAC will be a credit event. Credit events trigger payment of CDS. CAC triggers prevent a full blown Greek default, but fully imply the unknown of the CDS event.

ECB Capacity for Further Easing, A Ghost in the Closet

When likely results of Greek bond cuts require triggering CDS payments, the real question today is the net result. Consensus is a net of $3.35B loss, very far from the IIF’s projected $1T loss pronounced today in event of a full default.

An organized default through CAC activation, which is anticipated, is also apparently expected by fiscal policy officials controlling added aid for Greece and the other European countries. Fiscal policy officials committed themselves to add aid money if at least bond principle cuts occur.

It now appears that bond principle cuts will occur. But the real question now is at what price versus execution and activation of Credit Default Swaps. Where net losses are proposed at $3.35B, what if counter parties are weak and fail on their payments.

But perhaps that accounts for the massive LTRO’s of the ECB since last December. What is the condition of the ECB’s liquidity. Certainly if it's asked to absorb any decrease in sovereign bond prices and increases  in borrowing costs, after the ECB’s massive sovereign bond purchases, no capacity exists to meet the request.

Market insecurities will result. Along with the associated declines in equities, increases in treasuries and safe currencies.  Currency carry trades might return with declining currency prices in high interest rate countries.