Greek 10-year government bond yields fell on Monday after Standard and Poor’s raised the country’s rating by one notch to B minus, praising the country’s compliance with the terms of its third bailout.
S&P revised upwards Greece’s Long Term ratings, on January 22, to B-‘ from ‘CCC+’ with the outlook remaining stable. The upward revision is mainly attributed to the agency’s expectation that Greece will meet the conditionality attached to the €86bn bailout program, opening the way for discussions on official debt relief, despite the differences between the government and its creditors.
S&P raised the short-term foreign and local currency sovereign credit ratings to ΄B΄ from ΄C΄. In particular, by the end of March the agency expects a compromise to be reached on pension reform that will balance the government’s preference to raise social security contributions and consolidate the separate pension funds into a single system, with creditors’ and the IMF’s focus on spending cuts to narrow an unsustainably high pension deficit, currently estimated at 9% of GDP. An impending agreement on pension reform, leading to the successful conclusion of the first review of the program, would raise the possibility of additional relief on the official portion of Greece’s general government debt.Standard & Poors raised on Friday its long-term sovereign credit rating on Greece to ‘B-‘ from ‘CCC+’, with a stable outlook, citing the country’s compliance with its economic program.
“The upgrade reflects our assessment that the Greek government is broadly complying with the terms of its €86 billion financial support program financed by eurozone member states via the European Stability Mechanism (ESM),” the rating agency said in its press release.
Resilient economy
S&P also noted that “despite multiple shocks, the economy has proved more resilient than we had previously expected.”
The firm said Greek public debt will rise to 187.4% of GDP in 2016, mainly because it projects no nominal GDP growth this year, but also because the government plans to make just over 3% of GDP (€5.5 billion) in arrears payments, as well as to finance a deficit of just under 3% of GDP.
The stable outlook, the company said, indicates “our view that, over the next 12 months, risks to our ‘B-‘ rating are balanced.”
Positive development
The review could potentially lead to the inclusion of Greek bonds in the European Central Bank’s 60 billion euro a month asset purchase program. It could also pave the way to debt relief talks with its eurozone partners, which some bondholders would see as a positive development. They do not expect the talks to include the private sector, which has already taken losses in a 2012 restructuring.
S&P projections for the Greek economy call for one more year of essentially flat growth, followed by a more robust recovery. According to the agency, there is also a possibility that the banking system, including smaller financial institutions, could eventually require capital support. Nevertheless, in their opinion, the recapitalization exercise has contributed to Greece’s financial stability while considerably lowering the risk that further financial sector contingent liabilities will crystallize on the government’s balance sheet. S&P forecasts a primary surplus of 0.4% of GDP this year (versus the 0.5% target), increasing to close to 2% by 2019. One risk to fiscal targets this year is last year’s Council of State decision declaring that pension cuts introduced in 2012 were unconstitutional. The agency also estimates that last year’s current account shifted into surplus, while they expect Greece’s current account will shift back into deficit as demand recovers over the next few years, though oil prices, should they remain at current levels, could improve the current account position this year by as much as 2% of GDP. They also anticipate the capital account to remain substantially in surplus over the forecast horizon.
Consideration for new upgrade
S&P expects any re-profiling of Greece’s official debt to come in the form of interest rate deferrals, and maturity extensions. Should the first review be completed successfully, they anticipate that the small amount of Greek government bonds still in the market is likely to become eligible for QE purchases by the Bank of Greece. In addition, a potential decision by the ECB to reinstate its waiver on the eligibility of Greek sovereign and sovereign guaranteed bank collateral for ECB financing would benefit the profitability of Greece’s banking system. The agency, however, anticipates an only gradual lifting of the capital controls still in place, including withdrawal limits on household deposits.
S&P could consider an upgrade if they saw stronger growth performance, and measureable progress in the reduction of the NPL levels in Greece’s banking system, alongside the lifting of capital controls including deposit withdrawal limits, which would be a strong indication of a recovery of confidence in financial stability and hence growth. They could also consider raising the rating on the back of an unexpected write-down of Greece’s level of net general government debt. On the other hand, the agency could lower the ratings on Greece if the new government cannot implement the reforms it has agreed to in the MoU between itself and the ESM. Prolonged implementation problems with the ESM program could eventually lead to a general default on the government’s debt.
Greece was still debating its politically sensitive pension reform, a precondition for completing the first review and starting talks on debt restructuring that has prompted a wave of strikes. But the agency expected a compromise to be reached in the coming months.
Market opening
At the market open at 0830 GMT, Greek 10-year bond yields fell 10 basis points to as low as 9.44 percent, having traded above 10 percent at the end of last week, according to a Reuters report.
Prices were extremely volatile, however, in one of the world’s most illiquid debt markets. Only 35 million euros worth of Greek bonds had traded in the first two weeks of the year on the HDAT platform, according to central bank data.
“The rating upgrade – I don’t think it was fully priced in by the market, although it’s hard to draw any conclusion about the illiquid Greek bonds,” said KBC rate strategist Mathias van der Jeugt.
Distressed debt investors
Analysts say Greece remains a market only for specialized distressed debt investors. Rating upgrades normally trigger forced buying from rating-sensitive investors only when a country moves from “junk” to investment grade, which Greece was still far away from.
Two-year yields were down 9 basis points at 13.48 percent, while five-year yields were 11 bps lower at 11.12 percent. The inverted yield curve in which short-term yields trade higher than longer-term ones is a sign bondholders are still worried that Greece may not be able to repay its debt in full when it comes due.
Greek CDS prices suggested the market saw a default probability of 57 percent, according to Markit data.
“The upgrade is good news, but Greece remains vulnerable,” BNP Paribas rate strategist Patrick Jacq said.
The Athens bourse was up 1.4 percent, with an index of banking stocks rising 2.2 percent.
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