Raters' Moves May Ease Greek Fix

Rollover would trigger default, S&P says, but it might be temporary.

Standard & Poor’s and Fitch Ratings may enable European Central Bank President Jean-Claude Trichet to support a private investor rollover of Greek debt by saying a default rating would be partial and temporary.

Trichet put Greece’s fate in the hands of ratings companies when bank officials began saying in May that the ECB, which has lent 98 billion euros ($142 billion) to Greek banks, would refuse to accept the nation’s bonds as collateral if any “burden sharing” by private investors produced a default rating. Growing support for a rollover helped push the yield on Greece’s 2-year bond down 320 basis points to 26.2 percent since June 27.

Trichet and European political leaders have been at odds over creditors’ role in a new Greek rescue after last year’s 110 billion-euro bailout failed to stop the spread of the region’s debt crisis. Germany backed down two weeks ago from its plan to extend maturities on existing Greek bonds. Now, it may be the ECB’s turn to yield to rating companies’ threats that a rollover would trigger default, or risk the collapse of Greek banks and spreading contagion.

“The ECB cannot remove liquidity from the big Greek banks,” said Dimitris Drakopoulos, an economist at Nomura. “This discussion is a waste of time. The ECB is going to back down in the end -- what can they do?” he added.


French Plan
Under a French-designed plan being used as a basis for talks with private investors, creditors would voluntarily agree to roll over 70 percent of bonds maturing by mid-2014 into new 30-year Greek securities backed by AAA-rated collateral. Under a second option, banks and insurers could roll over into new five-year bonds with no guarantee.

S&P roiled markets yesterday, erasing most of the euro’s early gains, when it said the French plan would likely trigger a default rating, repeating assertions made by Fitch on June 15 about general debt rollovers. The euro decline 0.5 percent today to $1.447.

The companies did leave Trichet with a way out, saying Greece may have to endure this pariah status only until the rollover was carried out. Fitch also said that despite the default issuer rating, its rating on Greek bonds themselves would stay above default.

Trichet’s dilemma is that he must either allow the ECB to accept the rollover and keep funding Greek banks, or risk scuttling a new aid plan that Greece needs to avoid default.


Banks Vulnerable
“We doubt that the ECB would cease to accept Greek government bonds as collateral, if any default or selective default rating would come on the back of a broadly agreed upon plan,” said Philip Gisdakis, the Munich-based head of credit strategy at UniCredit SpA.

“A collapse of the Greek banking system, which would be inevitable if the ECB would no longer accept Greek bonds as collateral, would very likely trigger a bank run that could force Greece out of the euro zone and could, in turn, trigger a bank run in other periphery countries,” Gisdakis said.

The French plan is contingent on “informal clearance from rating agencies” that it won’t trigger a “downgrade to default or similar status,” according to a copy obtained by Bloomberg.

The rating companies have signaled the plan would trigger because it is being done to avoid default, so couldn’t be considered voluntary, and because investors would be worse off by holding the new securities. Greece’s 30-year bonds currently yield 11.1 percent, while the new debt would have a coupon of between 5.5 percent and 8 percent.


‘Caving In’
“The definition of a default is a distressed exchange or a renegotiation of terms,” which is exactly what’s being proposed, said Sylvain Raynes, a principal at R&R Consulting in New York. “If they do not downgrade them, they are caving in.”

Still, both companies said the default rating would be short-lived as Greece would be able to make its bond payments after the rollover was implemented, staving off a default.

“Once either option is implemented, we would assign a new issuer credit rating to Greece after a short time reflecting our forward-looking view of Greece’s sovereign credit risk,” S&P said in a July 4 statement.

Fitch Ratings said June 15 that it would probably keep ratings of Greek government bonds above default level, while lowering Greece’s issuer rating to “restricted default” under rollover plans without a specific reference to the French plan.

Greece is currently rated CCC by S&P, Caa1 by Moody’s and CCC by Fitch. All the companies have a negative outlook.


Uruguay Precedent
Uruguay’s lightning default in 2003 may be a precedent. The South American country struggled to finance its debt after Argentina’s default in late 2001, and in 2003 convinced investors to swap $4.9 billion of Uruguayan bonds into new securities with longer maturities.

S&P cut Uruguay to selective default from CC on May 16, 2003, the day of the swap. It lifted the rating to B- on June 2, 2003. Fitch cut Uruguay to DDD the same day as S&P and then on May 30, 2003, rated the new bonds at B-. Moody’s Investors Service never cut Uruguay to default.

Under ECB rules, the bank uses the best single rating to determine collateral eligibility. The Financial Times reported today that the ECB planned to continue to accept the debt as long as one company had its rating above default, citing a bank official. The ECB declined to comment on the report.

Trichet has already shown a willingness to skirt the collateral rules when he suspended minimum rating requirements to give Greece and Ireland more breathing room.


‘More Aggressive’
“I have to say that I and others have noticed that the ratings agencies are in this European issue much stricter and much more aggressive than they have been in similar cases in, for instance, South America,” ECB Governing Council member Ewald Nowotny said in an interview yesterday with Austrian state television broadcaster ORF.

Trichet’s tough line may have helped him shoot down German Finance Minister Wolfgang Schaeuble’s proposal for investors to swap their bonds for longer-maturity debt, calls to forgive part of Greece’s debt or even proposals for Greece to drop out of the euro zone.

“The ECB is not keen on the private sector participation at all,” said Danske Bank economist Frank Oeland Hansen. “But we are so far down the road with banks in Germany and France agreeing to it that we will have some form of private sector participation. It seems one or the other will have to back down a bit and I think it will be the ECB,” he said.

Trichet’s putting the credit rating companies at the center of the debate has added to the strain between the companies and EU leaders, who have been angered by the downgrades that they say have fueled the region’s debt crisis. 

Following what they said were ill-timed downgrades of Greece and Spain, European officials have questioned the rating companies’ credibility after maintaining AAA ratings on the subprime mortgage products at the center of the U.S. financial meltdown. Last year EU officials called for a European ratings company overseen by the ECB to break what German Finance Minister Wolfgang Schaeuble last week described as an “oligopoly.”


Bloomberg News

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