Ssh! Greece has just defaulted

You may never have heard of the International Swaps and Derivatives Association (ISDA). The ISDA is an extremely powerful body made up mainly of bankers, and one of the main jobs of their Determinations Committee is to make binding decisions about whether or not sovereign debt defaults have occurred.
The ISDA issued a statement on Friday 9^th March, after normal business hours, announcing that Greece is now in default. Their statement can be read here, and their FAQ sheet about their decision can be read here. The reason they have declared a default is that the bond agreement issued by the Greek authorities this week includes Collective Action Clauses (CACs) which bind all debt holders, not just the majority who agreed to these new terms, and anything which means a lender will not get their money back, in full and on time, counts as a default.

From here on, the main point of contention will be how the insurance policies taken out against debt default (Credit Default Swaps or CDSs) can be made to pay out. Many of these policies are believed not to have sufficient collateral backing to pay out, and those that can pay out will cause severe financial pain to the policy holders, many of whom are banks – the same banks which sit on the ISDA’s Determinations Committee… There will be an auction on Monday 19^th March, to determine the residual market value of these damaged sovereign bonds. The CDSs then have to pay out the difference between this residual market value and the insured face value of the original bonds.

The ISDA has published a list of the affected debts – the Preliminary Greek Deliverable Obligations can be seen here. The key point here is that a significant fraction of these debts were contracted under UK Law, which is much stricter in terms of protecting the interests of the lender.

The auction follows a default of a rather technical nature. However, on the following day, Greek government debt worth €14.5Bn is due for repayment. If anything prevents this debt being repaid on Tuesday 20^th March, the default will be direct, and simple enough for anyone to understand.

*** Updated Mon 12th March 2012 ***

But there’s a big, hidden problem: the majority of the bank CDSs have been issued by their “non-consolidated subsidiaries” (i.e. hidden “off balance sheet” subdivisions), which means the figures being quoted for the total net CDS bill of $3.5Bn are very incomplete. They are also being quoted “net”.

If we count all the parties on both sides of the deals (not just the official bank CDSs), the real total value in play is at least 50% or more of the $37 TRILLION CDSs which relate to Greece. It is also extremely deceptive to quote a net value for the CDSs, as this assumes that all parties are solvent. They’re not.

If the CDSs are triggered, almost immediately up to 8 international banks would need bailing out, and central planners would attempt to totally camouflage this to prevent public panic. The only way the CDSs could pay out is if the Federal Reserve Bank extends very significant “dollar swap lines” (these are private inter-bank loans) to fund the ECB. These funds will then be discretely redirected to the affected banks. The bottom line is if these CDSs are made to pay, we are looking at an inflationary nightmare; all paper/credit money will be diluted, and precious metals priced in these impaired currencies will rise significantly.

See also:

• http://www.zerohedge.com/news/greece-has-defaulted-here-where-we-stand
• http://www.jsmineset.com/2012/03/09/sinclair-greek-tragedy-part-of-37-trillion-not-3-5-billion/
• http://blogs.wsj.com/marketbeat/2012/03/09/issue-of-cds-reliability-is-moot-says-isda-counsel/
• http://www.zerohedge.com/news/visual-simplification-cds-market