The whispers are growing louder. For a few weeks at least public commentators have been grumbling discontentedly about Ireland, Spain, Greece, and the Baltics. How much stress is there in the system? Would there be a default? Could this be the next boot to drop? And then today’s news: Dubai is playing high stakes poker with the debt markets. http://www.bloomberg.com/apps/news?pid=20601087&sid=azd17alFNikQ&pos=2

Where does that leave Greece?

Here’s a snapshot from Citi

Greece today fell 2.3% (down c4% at some stage) and c18% since October’s
high. It has decoupled from the European markets and banks (-3%). The Greek
10-year bond spread rose from 140bp to 179bp this month – still well below the
300bp in early 2009, with significant pick-up in volumes. The market fears on the
weak macro situation and the difficulties in fixing it have been compounded by
concerns on the high level of ECB funding by the Greek banks (peaked at 12% of
their balance sheet earlier in the year – now reduced by an estimated 2-3%).
Today’s concern was on the ability of the banks to use the Greek government debt
as collateral – in the event of a downgrade of the sovereign ratings.
We are surprised by such concerns. The ECB in Oct 2008 lowered the
requirement for collateral from A to BBB- (with haircut or BBB without a haircut).
In the May 2009 12-month auction the ECB extended the period for these
requirements to at least the end of 2010 (the only thing that is unclear is whether
this will also apply to 2010 auctions maturing in 2011). This now suggests that it
will need a significant 4-notch downgrade by S&P / Fitch (Greece now at A-, there
is BBB+, BBB, BBB-) and a 6-notch by Moodys (now at A1, then A2, A3, Baa1,
Baa2, Baa3) before the collateral cannot be used. Such extreme, and in our view,
unlikely events could have bigger issues for Greece’s ability to borrow and not just
the banks. Despite the high macro risk we struggle to see how Greece will be
allowed to fail in an EU/EMU context.
We believe the collateral / ECB funding issue is one that affects more the cost of
funding (for Greek banks and subsequently corporates) and less the availability of
funding. We believe it will lead to a decoupling of share price and operational
performance among the Greek banks to those with comfortable balance sheets.
Buy on Weakness – Bank of Cyprus (marginal ECB funding and exposure to Greek
government bonds) now on P/E of 7.5x and price to tangible book of 1.3x. We also
believe in NBG’s strong balance sheet (P/E of 10x, P/TB of 2.1x) despite high
exposure in government bonds. From the defensives we pick out PPC (P/E of 4.5x)
where the new management issue has now being resolved. We also pick out
Hellenic Exchanges (volumes at 2x normal average today) and Greek industrial
companies like Frigoglass that have little exposure to the Greek economy. Finally,
we highlight growth companies with strong balance sheets like Jumbo Babyland
and Terna Energy.

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