LONDON - Greek credit default swap spreads have risen to new heights during this holiday-shortened European week. Five-year Greek CDS spreads today touched 1,375 basis points on the continuing chatter on a Greek restructuring. Levels of contracts referencing Greece were as low as 1,287bp last Wednesday.
Greek headlines are proving to be the biggest market movers in recent weeks. Last week, when Standard & Poor’s sounded the alarm on U.S. credit, the global gold standard for creditworthiness, the market barely blinked. Today it similarly shrugged off a negative outlook from the same rating agency on Japan’s sovereign debt.
So why has action in the relatively small number of Greek contracts provoked such anxiety? Uncertainty plays a big part, uncertainty not only if a restructuring will take place, but if that restructuring will trigger a credit event in the CDS. If it doesn’t, spreads will shrink, but the utility of sovereign CDS as a hedge will be cast into doubt. As one trader put it, if you’ve bought home insurance and your house burns down and the insurance doesn’t pay up, what’s the point of the insurance?
A Greek restructuring would also cast the spotlight on other troubled peripheral countries. Once Greece revamps its debt, who’s next: Ireland, Portugal or Spain?
Where this leaves the market will be seen in the post-Bank holiday trading sessions, when players return to the market and liquidity returns to normal. Some, like Société Générale’s Suki Mann, see corporate credit spreads tightening throughout May, given the continued bullish run in the equity market and strong earnings results. Others are not so sanguine, noting spreads are already at the tight end of the range.
One sign of a persistent thread of pessimism in the market is the continuance of short positions, despite some pre-holiday covering, noted one trader. Those players are clearly betting that spreads will widen at some point. If they’re right, we could be in for a volatile May.
