July 27, 2017    6 minute read

The New Greek Bond Issue: The Right Time?

The Road to Recovery    July 27, 2017    6 minute read

The New Greek Bond Issue: The Right Time?

Introduction

Greece is geared to enter the bond market after a 3-year exile in a bid to issue 5-year bonds that yield around 4.75% annually. By doing so, Greece’s ruling Syriza party has signalled to the world that they believe the worst of their problems are over, and the country will begin to repay its debt independently while slowly raising its economy back from the ashes of the 2012 Eurozone crisis.

Greece invited bondholders of its existing 5-year bonds maturing in 2019 to tender them for cash at a price of 102.6% of their nominal amount, thereby incentivizing them to participate in their new issue. Greece successfully concluded a crucial second bailout review that unlocked the first part of a €8.5bn tranche by the European Stability Mechanism on July 10th.

This allows it to continue its bailout programs, which will support the country’s debt payments until August 2018. After that, the Greek government is looking to continue repaying its debt without bailout funds by issuing sovereign bonds, and these 5-year bonds are the first step in that direction. But the crucial question investors should ask is, has it come at the right time?

The Positives

Strong Asset Performance

Greek assets have been doing remarkably well this year. Bonds are up 17%, and stocks are up by more than 30%, which reflects growing investor confidence in the country’s recovery. It also highlights a reduction in risk premium attached to Greece that would enable the country to issue debt at a cheaper rate.

Greece has been positively influenced by improved public opinion of the Eurozone that has stemmed from its unexpected satisfying performance. The Eurozone economy is poised to spearhead recovery in the developing world – the U.S has fallen prey to political confusion caused by Donald Trump’s maverick policies and the U.K is shrouded in uncertainty owing to a lack of clarity in Theresa May’s Brexit plans.

Upgrade in S&P Ratings

In light of the Eurozone improving, Greece’s economic outlook has been upgraded by rating agencies. Moody’s Investor Service and the S&P rating agency have both changed their growth outlook for the Greek economy from “stable” to “positive”, highlighting the growing confidence seeping back into the country.

Furthermore, Moody has improved Greece’s credit rating to “Caa2” from “Caa3”. These rating agencies play a significant role in determining investor’s decisions by quantifying the financial capacity of the sovereign nation to repay its debts. Furthermore, institutional investors often have mandates to avoid investing in assets which are below a certain rating and growth outlook. Hence, improving these factors would increase the pool of investors available to purchase Greece’s debt.

Escaping ECB’s Normalisation

ECB has indicated that it intends to normalise its balance sheet and taper down its Quantitative Easing program as soon as it believes the Eurozone is fundamentally strong enough to absorb the reduction in aid. Greece, being the worst economic performer among the EU countries, will plausibly be unable to absorb the reduction as effectively as the rest.

Furthermore, the world is shifting toward a higher interest rate environment, and while it is possible for the ECB to maintain its accommodative policy in the short-term, it will eventually have to increase its interest rate to attract investment and prevent capital outflows from the Eurozone.

Greece’s decision to issue bonds while the ECB still maintains its ultra-low monetary policy may prove to be an astute decision as opposed to waiting and running the risk of higher interest rates on a later issue, which would increase the country’s debt burden.

The Negatives

Poor Economic Fundamentals

While investors are attracted to the strong Eurozone recovery narrative, the Greek economy is still reeling from its crisis. After all, it has been only two years since it was on the brink of exiting the Eurozone and falling into complete economic chaos. Such an incident has a dire and enduring impact on the economy’s fundamentals.

The Greek economy has shrunk by 25% since the crisis in 2012, and the unemployment rate still stands at 22%. Its annual GDP growth recorded by the World Bank in 2016 was 0%. Although the economy is slated to grow at around 1.5% for the new few years, the current dismal state leaves it vulnerable to any market correction or credit crunch that could send the economy spiralling back into a crisis.

Problems with the Bailout Program

While debt relief has been agreed to in the second bailout program, it comes in the form of extended maturities and reduced interest payments as opposed to any write-off in debt. These measures simply delay the inevitable rather than prevent it and maintain Greece’s debt level at 180% of GDP, a staggering amount that establishes its position as the most indebted EU country. The bailout terms also agree to an increase in pension reductions by a further 18% and effectively removes tax breaks, stoking unrest from their already disillusioned and enraged citizens.

In addition, Greece is still not admitted into the ECB’s bond purchase program which cuts off a potentially significant investor in their sovereign debt. Although the ECB has indicated that it will include Greece in the program if its economy continues to improve, Greece is left entirely to the mercy of the public bond market until then.

Conclusion

The Syriza government strongly believes that the time is ripe to re-enter the bond market for the first time since 2014 and enlist the assistance of global bond investors to finally extricate itself from the tenacious crisis that has plagued it since 2012. If the global economy continues to recover in its current environment characterised by low-volatility and stable growth, Greece should be able to comfortably repay its bondholders and successfully rejoin the ECB’s bond purchase program.

However, with fundamentals yet to improve and public morale at depressing levels from continued austerity, the economy is extremely fragile and hugely susceptible to any sudden changes in the market environment. Regardless of these concerns, Greece’s new bonds have attracted interest from global investors as the Eurozone is widely seen as the vanguard of economic growth in the coming years, and the low returns from conventional assets appear to motivate investors to place their bets on the higher yield of Greek bonds.

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