As the credit crisis continues to rattle stock markets and threatens to spill over to the real economy, it appears that the normalization expected in global capital markets will be postponed for later. This is not what some Greek banks would like to hear because at stake is not just their profitability but their future. The signs are not good. The European stock index DJ Stoxx 600 fell 12 percent last month, which is its biggest fall since 1987 and the 10-year government bonds in the countries of the eurozone returned more than 2.0 percent, which they have not done since 1987. Even the main indices on the Athens bourse lost more than 15 percent last month, the steepest fall in many years. Since markets tend to discount future earnings which are linked to economic growth, their sharp decline in the month of January signals concerns about the US heading into recession and its impact on other economies worldwide. However, there are reasons to believe the Greek economy will weather this storm, if and when it comes, and manage to grow at a rate of 3.5-4.0 percent in 2008. Assuming that the big chunk of Greek companies’ profits will come from domestic operations and the rest from neighboring countries that are projected to grow at even faster rates, the main explanation for the slump of their shares last month should be sought elsewhere. The linking of comparative valuations between major Greek companies and their European peers appears to be one such cause. This is especially true for heavyweight banks which trade at a premium to their counterparts due to better earnings prospects. So it is normal to see their shares decline when the shares of their European counterparts fall to keep the premium intact or even contract slightly. It is known that Greek banks were trading even at a 25 percent premium, meaning they were more expensive than the others. One may also add the deleveraging of hedge funds and other institutional investors during this period as their prime brokers – the stock market arms of large investment banks – limit their lending on the heels of the credit crunch. These institutional portfolios have no option but to sell some of their stock holdings. Victims of success However, Greek companies and especially banks appear to have fallen victim to their own success as the market’s views about the situation in neighboring countries, such as Romania and Bulgaria, change on concerns the global credit crisis will knock on their doors, forcing them to devalue their currencies in order to contain their current account deficits. The fact that these economies will still continue to grow at healthy rates this year has taken a backseat. Just two months ago, the same analysts were praising the expansion drive of Greek companies in the region and were ready to justify stock price targets and valuations being at a premium compared to their European peers. However, in the back of the mind of many analysts the biggest concern appears to be the increasing reliance of some Greek banks on wholesale funding, namely the issuance of asset-backed securities, senior loans and other debt instruments with medium-to-long-term maturity. Although money market rates in the eurozone have come down considerably following the unprecedented cash injections from the European Central Bank and the Fed’s campaign to aggressively cut the interest rate which commercial banks charge each other, banks and companies are finding it hard to secure medium- to long-term liquidity from capital markets. Hopes for second half The top executives of Greek banks and other banks abroad hope the capital markets will revert to normal in the second half of the year. They will then be able to come to the markets and borrow the sums they need. Needless to say, many banks and companies around the globe are thinking along the same lines, so the backlog keeps on increasing. Of course, eurozone banks can rely on short-term financing from the ECB to ride the storm and start paying higher interest rates to attract deposits. Knowing their Achilles heel, some Greek banks with a loan-to-deposit ratio above 100 and projected high loan growth rates for this year and next are quick to point out they had raised excess funds in 2007 to cope with such a contingency. In addition to the securitization of loans, Eurobank and Piraeus Bank successfully completed a rights issue in excess of -1.0 billion each in the fall of 2007. Nevertheless, banks know these funds cannot keep them going for more than a few months given their strong volume loan growth. Of course, this constraint does not apply to deposit-rich institutions such as the National Bank of Greece, ATE Bank and the Postal Savings Bank. So, it is quite possible that some banks will face quite a problem if the current credit crunch does not come to an end in the next few months and continues into the second half of 2008. This will not simply hit their profits. It will make them think twice about the future strategy of their franchise. Put simply, they will have to think more positively about linking up with a deposit-rich credit institution in Greece or falling into a foreign lap. The Greek government could facilitate this process if it decides to auction its controlling interest in the Postal Savings Bank to another Greek bank. This could become a catalyst for M&A in the Greek banking sector and help large banks with smaller deposit bases face the credit storm, assuming capital market conditions do not normalize in the second half. So, the credit crunch is not just about profits for some local banks. It is about their very survival and future.