Equity markets have proven their penchant for volatility in August. The last few trading sessions have been mostly positive though. As the volatility temporarily fades from the radar screen and we turn our sights to other matters germane to investment decision making, we thought it notable that Greek sovereign bonds are currently trading for anywhere from 40 to 60 cents on the dollar, yielding as much as 60%. Yes, that’s right – 60% (compared to well under 4% for the highest yielding US Treasury securities). Comparable, German bonds also yield in the low single digits.
We have a great deal of respect for the collective intelligence of bond markets because they are huge in terms of total volume of debt outstanding, quite liquid and serve a wide swath of investors – meaning prices are difficult to manipulate. The message that the markets are sending is that Greek debt holders can expect to receive significantly less than par value when the bonds mature. For example, holders of the 6.25% Greek Government Bonds due June of 2020 might only receive 52 cents for every dollar in principal value they hold.
What does this mean? The Greeks will default on their debt, irrespective of how the politicians characterize it. Hence, the only question to be answered now is how this process gets institutionalized, and how the holders of the debt (and most importantly, the banks that have bought these securities intending to hold to maturity), will recognize the losses on their balance sheets. If this process unfolds in a chaotic fashion, it can unleash significantly greater volatility across all financial markets all over the world. If a “work-out” is well thought out and telegraphed to markets as terms evolve, the problem will be much more manageable. The process will be key – and bears monitoring.
We welcome all comments and questions.
Robert M. Bilkie Jr., CFA