Over the weekend, the EU and IMF announced a support package for Greece that appeared initially to mollify German constitutional concerns.
As I predicted on Friday, the first reaction to the news was a big rally in the Euro and it soared above 1.3600. The 45 billion Euro deal would have 30 billion from the EU states and 15 billion from the IMF supplied at a 5% rate to Greece. The rate is a compromise between where Germany borrows in the market (10 yr 3.19%) and where Greece can borrow (above 7% on Friday, now 6.62%).
On the news, Greek bonds rallied around 50 basis points to 6.62% (down 100 from Friday AM) and the spread to German debt narrowed 67 basis points to 331. The Euro rallied 200 points on the open to near 1.3700.
However, German spokesman Christoph Steegmans expressed reservation by saying, “Just because I have a fire extinguisher on the wall doesn't mean I'm going to use it.”
Also, German Finance Ministry spokesman Michael Offer said, "This decision today was no decision on aid for Greece….But it was only about technical preconditions for aid by further specifying the decision of the heads of state and governments. We expect, we hope that Greece is now in a situation where it can continue to refinance itself on the capital markets, as previously.”
The Euro reacted by giving up half its gains and the markets are questioning the resolve of Germany to agree to the package before the elections.
Domestically, any deal for Greece is unpopular and hurt Merkel in the upcoming electrons on May 9th.
According to previous agreements on Greece, all of the 16 member Euro Zone would have to agree to the package for it to be passed and put in place. As Offer stated, there would be a big step between what has happened today and what would happen if Greece would actually ask for this help. Also, the IMF would have to work out the details of their support with what austerity measures they want Greece to meet to get the money.
Finally, the Greece government would have to approve all the terms negotiated.
Therefore, two questions remain for this deal. One, what metrics are going to be used to gauge whether Greece can trigger this cheap rate aid. Two, will the entire Euro Zone membership agree to the aid should Greece ask for it. While the deal appears firmer than in the past, it appears it’s not set in stone. Markets need certainty to attain comfort to buy Greek debt. This new package is the best yet, but still leaves doors open as to whether it actually gets done.
Here’s my two metrics to gauge if it’s working. One, will Greek banks have repo lines expanded from overnight to 3mths? Greek banks have had 10 billion Euros in outflows over January and February. All four major banks were downgraded by Moody’s by one notch two weeks ago. Two, will the next Greek auction generate rates closer to 5% vs 6.5% or higher? Fitch downgraded Greece to BBB- on Friday. First test, Greece has short term funding issues with an auction for 26 week and 52 week T-bills for tomorrow.
The game plan remains the same; expect volatility and action every time Greece has an auction. It’s a great trading environment. For now, expect the rally in Greek debt, equities, and the Euro to continue until we see the results of the auctions.
Andrew B. BuschDirector,