19th February 2015
Can Elbi, manager of the JB Europe Focus fund at Swiss & Global Asset Management looks at what investors should expect from the market as the clock ticks for Greece…
It is crunch time for Greece and the Greek people. We have entered the critical last 10 days until the current second bail-out, reform program expires.
As we stand today, Greece has until 20 February to request an extension to the existing bailout programme, so that there would still be enough time to pass this through the German, Dutch and Finnish parliaments by 28 February.
Without an extension of the program, Greece will certainly default on its liabilities and its banks will be rendered insolvent, with an accelerating run on deposits.
Worse, its membership of the European Union (EU) as well as its monetary union will be left hanging in the air. Greek people, and their democratically elected representatives in the Syriza government, have to now decide where they see their country in 20 years. The options are stark.
The unintended consequences of officially moving out of the current programme would be catastrophic for Greece, its banks and its citizens, with the ultimate end-game of being the first country to leave the EMU as well as the EU.
These would be unchartered waters, not even legally addressed in the current Maastricht/Lisbon treaties. The other scenario, which continues to be our base case, is that the Greek authorities will ultimately accept the current bail-out/reform policy framework, despite their pre-election rhetoric.
The Eurogroup would then agree to disburse €1.8bn of funds being currently withheld and this would also allow the European Central Bank (ECB) to continue bankrolling the Greek banks under ELA facilities. Further negotiations would follow, but broader European equity markets would likely have moved on from these developments with no negative impact, as private sector exposure to Greek risk has been very limited since the 2012 bail-out. Some 75% of Greek sovereign debt is now held by the official sector – the ECB, IMF and EFSF eurozone rescue fund.
The adverse impact of a Greek exit from the EU on other European markets would result in increasing risk premiums, especially in the periphery. Peripheral sovereign bonds would be shielded from the fallout by the ECB’s quantitative easing purchases due to start in March.
However, we would expect stocks and the euro to come under downward pressure, reflecting some loss of confidence from this negative precedent and the associated uncertainty for the frail economic recovery.
We assign a probability of at least 75% to the Greek authorities ultimately accepting the current bail-out/reform policy framework. From an equity investors perspective, a relative hedge against the adverse scenario in a European context would be to increase exposure to German companies while cutting exposure to peripheral banks as well as domestically oriented cyclical businesses.