Crucial Greek vote breathes life into bond trade

The Greek bond market is springing back to life as hedge funds bet on whether parliament approves more budget cuts to unlock vital foreign aid, or rejects them and threatens a default.

New Greek bonds issued under a debt swap deal earlier this year are trading, at best, at less than a third of their face value. Nevertheless, this is twice their lowest value hit when an imminent Greek departure from the eurozone seemed possible.

Buyers expect Greek lawmakers to vote on Wednesday for the 13.5 billion euros of spending cuts and tax increases in next year’s budget. As optimists they hope that one day they will be repaid in full, or at least that the eurozone’s bailout fund will buy back their bonds at a higher price.

Sellers, however, believe parliament will vote against the extra austerity which Greece’s international lenders have made a condition for releasing 31.5 billion euros of aid that Athens urgently needed to avoid bankruptcy.

Together they have boosted trade sharply.

“A lot of our investors are getting involved in this story. Some people have taken really big positions, and a very significant proportion of hedge funds in that distressed debt area now have a Greek position,» said Gabriel Sterne, an economist at Exotix, a broker that deals in Greek debt.

The bulk of privately-held Greek debt is now owned by hedge funds which can take bigger risks than traditional investors such as pension funds.

Betting on the vote is undoubtedly risky. The result is expected to be close and with striking workers crippling the country, members of parliament are under intense pressure to reject inflicting another wave of misery on Greeks.

“It looks like we’re going to be watching the Greek vote live on TV again,» said Sohail Malik, lead portfolio manager of a special situations fund at ECM Asset Management which held Greek bonds until 2011.

Malik said expectations of a Greek exit from the eurozone, which have eased since earlier this year, could rapidly revive. «The door is not shut on the Greek position within Europe. The odds have clearly reduced, but these fears can come back pretty quickly if we have an extraordinary political event this week.”

The volume of benchmark Greek bonds traded over HDAT, the trading platform operated by the Bank of Greece, has risen steadily from 26 million euros in April to 88 million in the first three weeks of October. This put October on track to be the busiest month this year, according to the latest data.

The data show only part of the market because many trades take place away from the exchange, but reveal a marked increase in general interest in Greek bonds over the last month.

The gap between the prices at which participants will buy and sell Greek debt, which narrows as activity picks up, is tighter than in August. However, at 100 cents it remains around double that on Spanish debt and 33 times that of ultra-liquid German Bunds.

Greece’s chronic recession and sky-high debts have forced Athens to seek two massive bailouts from its euro zone peers and the IMF, and in March this year private Greek bondholders took a nominal 53.5 percent loss on their investment.

As part of that deal, which eased Greece’s huge debt burden,

old bonds were replaced with new ones. These quickly slumped to around 14 percent of their face value, a level that is too risky for most investors but prized by some because they could be repaid in full for a handsome profit when the bonds mature.

Since then, prices more than doubled after a coalition government committed to keeping Greece in the eurozone took power in June.

London-based Adelante Asset Management achieved a 70 percent gain on Greek debt but recently decided to sell some of its holdings. This was due to the renewed uncertainty over the austerity demanded by «Troika» inspectors from the European Commission, European Central Bank and IMF.

“The reason for our sale is to protect some of our gains. We think the market is vulnerable ahead of the key vote on the 2013 budget and structural reforms the country needs to implement as agreed with the Troika,» Adelante Chief Executive Officer Julian Adams said.

Before the latest vote, profit taking has pushed prices lower for all maturities of Greek bonds, with the 2023 bond trading at 31.5 cents in the euro after peaking at 34 in early October. Other maturities have lower prices.

Adelante said it would consider using the price fall as an opportunity to buy more Greek debt if it felt the coalition had sufficient support to force through the required measures.

Even if parliament approves the extra cuts and international lenders release the aid, the severity of Greece’s recession means budget targets will be missed by two years, requiring 30 billion euros more funding.

For those willing to take a punt on Greek debt, bad news on meeting the budget targets could signal the right time to buy.

The eurozone has little appetite to lend more cash upfront to Greece and officials are unwilling to take losses on bailout loans and bonds held by the ECB. Policymakers are therefore mulling creative ways to reduce Greece’s debt, which is expected to hit 189 percent of GDP next year even after the bond swap.

One measure under consideration is using money from the region’s European Stability Mechanism (ESM), a bailout fund established earlier this year to cope with the crisis, to buy back Greece’s debt.

That prospect is drawing the attention of those who see a chance to buy Greek debt and profit from the presence of a guaranteed buyer in the market.

ESM-funded buybacks could push up average prices across all maturities of Greek debt by almost 30 percent, according to Commerzbank. It estimates the average price of the new Greek government bonds (GGBs) would rise from 23.5 cents in the euro to 30.

“Once it is clear that first, a deal can be reached and second, the deal contains buy-backs, this will be conducive to a strong performance of the new GGBs,» said Commerzbank strategist Christoph Rieger. «If you have this target (of 30 cents) in mind it is already a compelling buy. It is hard to say whether we can go higher because there must be a limit as to how much the ESM could pay in a buyback.”


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