Tuesday, 27 September 2011

Asian Daily
Top of the pack ...

CS Conference Call--------------------------------------------------------------------------------------------Summary of William Porter's call on European sovereign/banking crisis

Jahanzeb Naseer / Research Analyst / 852 2101 6554 / jahanzeb.naseer@credit-suisse.com

CS hosted William Porter on a conference call on European sovereign/banking crisis. Below are the key takeaways. What happens to Euro-denominated transactions if a country leaves the EMU? Under most scenarios, including a partial breakup, the Euro should continue to trade in some capacity. We could see a pure reversal to local currencies, although there is a very remote possibility of this happening. The 4 Nov G20 meeting could set a potential deadline to a substantial structural change in the Euro area, but this seems aggressive. Potter said that the best indicator is the parallel with Argentina in terms of timing and numbers involved. On the likelihood of a disorderly default, Porter said, the possibility of a disorderly default is very real, although it shouldnt be caused deliberately. We have already started an orderly default to an extent, but this is not deep enough. The IMF proposal framework will be used. 21% NPV haircut is not sustainable; the IMF has been telling EU that it must be put on a sustainable basis in order for markets to begin a recovery.
Q&A takeaways What happens to Euro-denominated transactions if a country leaves the EMU?

What will be done between now and the 4 Nov G20 meeting? Do you agree that a major decision must be made within the next 23 weeks?

We have triggered an unstable equilibrium; the banks model is brokenborrowing costs are above those of the corporates. (1) Delicate and uncertain balance: Something has to happen, but will only happen under extreme duress, whereby someone (like Paulson during Lehman crisis) looks at strategic ways to break EU treaties. (2) Treaty breach might have to happen, especially if in the interests of the EU. (3) They must move to capitalise the stronger banks (look at AAArated countries).
What is the likelihood of a disorderly default?

Many people are frightened, not just in Greece. (1) Possibility of a disorderly default is very real, although it shouldnt be caused deliberately. (2) Argentina became a disorderly default, effectively un-remedied draws parallels with Greece. (3) We have already started an orderly default to an extent, but this is not deep enough. (4) The IMFs proposal framework will be used. (5) 21% NPV haircut is not sustainable; the IMF has been telling EU that it must be put on a sustainable basis in order for markets to begin a recovery (6) Time is slipping away: We do not have until July 2012; deep restructuring is definitely needed before the March maturities.
ECB balance sheetwhat happens to the 130 bn of Greek paper in the event of a default? Will it be written off?

Using English law as a benchmark, if a country leaves, any obligations due are subject to redenominationthey will settle against Euro as long as it trades. (1) Under most scenarios, including a partial break-up, the Euro should continue to trade in some capacity. (2) What about a pure reversal? We would see a pure reversal to local currenciesthere is a very remote possibility of this happening.
What are the real options on the table and possible outcomes now? What are the key upcoming events?

Payments due in the next month have limited effect on the likelihood of default on second bailout. (1) The public sector could also buy/lend to peripheral Europe. (2) Timing: Delayed timetable; likely to disappoint the market and become time-consuming; any recovery is likely to be short-lived. (3) End game: Force private sector to stabilise mistakes and recognise costs. This will only happen under extreme stress and the timing is hard to predict. (4) The 4 Nov G20 meeting could set a potential deadline to substantial structural change in Euro area, but this seems aggressive. (5) German vote on EFSF on 29 Oct should not failwatch this. (6) The IMF is likely to call time on the process and Greece is likely to be forced into heavy restructuringevents are accelerating. (7) The best indicator is the parallel with Argentina in terms of timing and numbers involved.

The 130 bn is made up of ~3040 bn in GGBs + ~90 bn held by the Greek government in the national banking system. (1) Whatever package is used, getting the ECB out of uncomfortable lending to national central banks remains the key. (2) GGBs must take a haircut or a term extensionthis is not huge compared to total Euro-system capital (~400 bn). (3) Problem: exposure to the banking system. Bank of Greeces balance sheet exposure to the banking system is pure state riska loss on the banks and on the Bank of Greece to lose money. Secured by Greek state assets. The ECB is uncomfortable with thiskeen to resolve the situation given the extreme pressure/scrutiny it is under. (4) The ECB is constrained to fund any capital flight, in the event of Greece leaving the EMU.

- 3 of 31 -