CDS confusion grips market
EUROZONE efforts to avoid a “credit event” in Greece have thrown the region’s credit default swap (CDS) market into confusion and ramped up the cost of insuring the sovereign’s debt.
According to data from Markit, Greek CDSs are now the most expensive in the world, with a five-year swap costing 2,000 basis points, meaning it costs €2m to insure €10m of Greek debt.
That compares to a cost of 1,100 basis points to insure equivalent Venezuelan debt, the next most expensive.
But observers say that the extraordinary pricing of Greek CDSs is being driven not just by Athens’ debt levels but by the nature of the burden-sharing under consideration.
The EU is keen to avoid any action that ratings agencies would classify as a “default”, since European Central Bank (ECB) rules forbid the bank from accepting as collateral any debt from a bankrupt sovereign.
But in order to share the cost of a new bailout with private investors, the EU is considering asking bondholders to voluntarily roll over their bonds, or to maintain their exposure by buying new bonds as their holdings mature.
“Given that it is voluntary it should not trigger CDS under current (industry) documentation,” say analysts at Deutsche Bank.
But depending on precisely what formulation Brussels uses, CDS holders could receive a payout or could find themselves out of pocket.
“The uncertainty around the CDS market has been a major source of volatility in recent weeks,” says Markit credit analyst Gavan Nolan.
The Greek sovereign CDS market is relatively small – estimated at $5bn – but a voluntary rollover that does not trigger CDS pay-outs could have knock-on effects throughout the region, raising the cost of insuring other peripherals’ debt.
“What policymakers are concerned about is a contagion effect,” says Nolan.