Greece Examines a Debt Buyback as One Way to Reduce Its Burden
By LANDON THOMAS Jr.
Published: November 14, 2012
LONDON — As Greece’s creditors bicker over the terms of its bailout, the government is examining a more radical approach that could reduce the country’s escalating debt pile in one fell swoop.
Milos Bicanski/Getty Images
An anti-austerity protest on Wednesday in Athens. The government this month narrowly secured parliamentary approval for yet another round of spending cuts and tax increases.
Fotis Plegas G./European Pressphoto Agency
Charles Dallara of the Institute of International Finance argues that the real issue is Greece’s inability to revive its economy.
Essentially, Greece would propose that its private sector bondholders sell back their sovereign debt holdings for a small profit, but at a price favorable to Greece. The move takes a page from the playbook Greece used earlier this year in which the government pressured banks and other private holders to take a loss on their sovereign bonds so Greece could ease its debt load. This time, they would not be forced to take a haircut, but some would most likely balk at being forced to accept a new deal.
The aim is to further reduce an ever-increasing sovereign debt burden that is fast approaching 200 percent of gross domestic product, far beyond Europe’s ideal of 60 percent or less.
Many different strategies about how to address Greece’s debt load are being discussed by its creditors, with the buyback option being just one of several. The government this month narrowly secured parliamentary approval for yet another round of spending cuts and tax increases, putting Greece on the verge of receiving 31 billion euros, or $39 billion, in desperately needed bailout loans. The euro zone is also weighing measures — like extending loan maturities and paring interest rates — that would further ease the country’s financial burden.
While the most pressing need is securing the 31 billion euros Greece needs to survive, arriving at a long-term solution for its bloated sovereign debt is also seen as crucial, given that the economy continues to shrink. An estimate released Wednesday showed Greece’s economy contracted by 7 percent in the third quarter — which makes the debt relative to economic output all the more onerous.
To that end, a small circle of lawyers and bankers are suggesting that Greece offer to buy back its deeply discounted debt at a price of 27 to 33 euro cents, compared to the 25-cent level where it currently trades. If investors hold out for a higher price, the government could invoke collective action clauses (C.A.C.’s) in the bond contracts that, in theory, would prevent a bidding war, thus allowing the country to retire as much as 40 billion euros of its 340 billion euros in debt.
For example, the 62 billion euros’ worth of new bonds that Greece issued as part of its landmark debt restructuring deal reached with private bondholders in March are now valued at about 15 billion euros, or $19 billion. If Greece were to borrow the money to buy back this debt, it could retire 30 billion to 40 billion euros’ worth of its obligations, depending on the ultimate price it pays.
While borrowing such an amount would be a challenge, Germany — the biggest euro zone economy and thus the biggest contributor to the Greek bailout — could take the view that this would be a better way to reduce Greek debt than to ask taxpayers to swallow a loss via a write-down of public sector bailout loans.
Unlike the last time around, when the protracted wrangling between the Greek government and private bondholders centered on banks, hedge funds and other investors’ accepting a reduction in the bonds’ value, they will not have to suffer a large loss on their bond holdings. Depending on the price, however, they may have to forgo some further upside if the bonds continue to rally after the buyback.
If successful, the debt buyback could significantly reduce Greece’s debt and afford the country a realistic chance of meeting the target of a debt ratio of 120 percent of G.D.P. by 2020 that the International Monetary Fund has set as a condition for it to lend more money. European leaders have said that this benchmark is too stringent and needs to be relaxed.
Of course, the idea has infuriated the many hedge funds that in past months have scooped up more than 22 billion euros’ worth of Greek bonds at rock-bottom prices. With many sitting on big profits after the recent market rally, they are in no mood to sell out cheaply, especially if Greece resorts to wielding a legal cudgel to complete the deal.
“It’s really the dumbest thing that Greece can do right now,” said Hans Humes of Greylock Capital, who has been one of the more aggressive investors in terms of accumulating discounted Greek bonds.
Collective action clauses are legal riders in bond contracts that can make it easier for a debtor country to restructure its loans by forcing holdouts to accept the country’s proposal for a bond swap if a certain majority of creditors agree to it. They were used to great effect during the 100 billion euro restructuring of Greece’s private sector debt earlier this year.
With Greece needing to sell more than 50 billion euros’ worth of state-owned assets in the coming years, it doesn’t want to alienate foreign investors who are just now overcoming their fear that the country will be forced to leave the euro. For example, one of the larger holders of Greek debt is Third Point, the New York-based hedge fund. Third Point has also shown interest in bidding for the state’s stake in the OPAP betting company, whose sale the government is hoping will jump-start the so-far moribund privatization process.
To date, Europe and the European Central Bank have rejected suggestions from the International Monetary Fund that they write down their share of Greece’s debt — about 63 percent in total. The only other way to secure an immediate reduction in the debt stock is to look again to private sector institutions, even though they hold just 18 percent of Greece’s debt and have already gone through a painful restructuring.
Both Wolfgang Schäuble, Germany’s powerful finance minister, and Jörg Asmussen, who sits on the executive board of the European Central Bank, have spoken favorably about a buyback option, although they have not addressed the possibility of using collective action clauses to secure the best possible outcome.
Still, sovereign debt experts point out that for the C.A.C.’s on the restructured bonds to take effect, 75 percent of the holders must accept the government’s offer — and there is little chance of that if Greece tries to make a lowball bid. If, however, Greece offered a significant enough premium to today’s market price of around 25 cents, there is a strong possibility that investors might bite, although in such a case the cost would be higher and the debt reduction lower.
The government need not bother making an offer of a premium of 25 to 30 cents, said one hedge fund investor who owns Greek bonds. “But 35 cents would attract interest and you may not find many people who want to hold at that level,” said this person, who requested anonymity because he was not authorized to speak publicly.
Such an attitude, in fact, illustrates one of the main criticisms of debt buyback strategies, which were frequently used during the Latin American debt crisis in the 1980s. Once investors realize a buyback is being considered, they start accumulating the once-scorned bonds, thus forcing the government to spend — or in the case of Greece, borrow — an even larger sum of money to retire a smaller portion of its debt.
And who are the winners? Vulture and distressed-debt investors as well as opportunistic hedge funds that hold out for the highest price possible and then walk away with a rich return.
“It is a boondoggle,” said Gabriel Sterne, a sovereign debt expert at Exotix, an investment bank based in London.
For that reason, bankers and lawyers advising the Greek government are pushing the notion of using the C.A.C. as a form of leverage that might persuade investors to accept a lower price. For now, it is unclear if the Greek government will take such a step.
Charles Dallara, who as head of the Institute of International Finance represented the major banks during the debt talks earlier this year, opposes the concept. It is not the debt itself that is the issue, he argues, but Greece’s inability to dig itself out of a near depression.
“We have already seen a massive reduction in debt,” he said. “It has nothing to do with the debt dynamic — it is the lack of a growth dynamic that is the problem.”
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