This is an update of my November 24 Seeking Alpha article warning investors that the euro bailout and Greek restructuring would fail and that Greece will default.
The default by Greece on its sovereign debt is certain now that Greece has effectively rebuffed the efforts of its debtholders committee to negotiate a "settlement" with a partial payment of 40 percent. They will announce a settlement. But it won't be worth the paper it is written on.
The default is going to have some unexpected impacts that are going to greatly change certain stock and bond prices in both Europe and the US. Some are going to rise dramatically and other significantly fall. It's going to provide some really good opportunities for knowledgeable investors.
Among the companies and banks that will be affected: National Bank of Greece (NBG), Credit Suisse (NYSE:CS), Deutsche Bank (NYSE:DB), Goldman Sachs (NYSE:GS), JPMorgan Chase (NYSE:JPM), ETF funds with european stocks such GREK, and a lot of hedge funds.
There are five main questions. Their answers, some rather surprising, will affect certain stock and bond prices.
The first question is whether Greece will totally default, partially default, or allegedly not default by exchanging its euro-denominated debt for non-interest bearing certificates.
The second question is what steps Greece will simultaneously take to protect the Greek people and get the Greek economy going again.
The third question is what will Greece do about repayments to everyone outside of Greece holding its debt - the ECB, the large German banks, the IMF, the hedge funds and estate of MF Global, etc.
The fourth question is which companies and economies will take the hit when Greece defaults? For example will it slow down the US recovery? Increase the price of gold? Clobber US hedge funds?
The fifth question is which eurozone country will be the next to default.
The Current Situation
As predicted in the November 24 Seeking Alpha article, several "rescues" were attempted by the eurozone nations led by Germany and France and by the European Central Bank and the IMF.
The rescues were ostensibly to help Greece pay its maturing sovereign debt and cover its budget deficit. In fact, as noted previously, the goal was not to save Greece or the euro. Rather, the goal was to save the handful of to-big-to-fail German and French banks which made the high-interest loans and buy time for them to unload the loans that were not immediately maturing - on gullible hedge funds such as MF Global.
A substantial portion of the "bailouts" involved Greece borrowing money from the ECB and the IMF as well as from a fund set up by participating nations such as Germany. As it is in a reorganization bankruptcy, the new debt is supposedly senior to the old debt which is increasingly held by US hedge funds such as MF Global and the traditional buyers of distressed debt such as Alden and Angelo Gordon.
There may possibly be one more bailout payment in order to pay the $18.7b of debt due in March, primarily to Greece's original lenders. Then Greece defaults.
In the meantime, Greece and the current owners of the debt are engaged in negotiations, allegedly to negotiate a bond swap with a significant creditor "hair cut," but really in an effort to buy time until the final bank bailout can occur in March.
Surprisingly, the current holders of the old debt are actually taking the negotiations seriously - thinking they are in a US bankruptcy-like position and can get more than the 50% initially proposed by Germany and France and the 40% that apparently was the holders last proposal. They won't.
After more Greek filibustering and delay, and perhaps even with what appears to be an agreement giving the holders of the old debt something, it's much more likely they will end up getting absolutely nothing no matter what "agreement" is announced.
In fact, Greece is filibustering in the "size of the haircut" negotiations at the behest of Germany and France, so their banks can get the March payment and their 2012 elections can conclude before Greece officially throws in the towel and announces there will be a total default.
The deal appears to be a quid pro quo wherein Greece filibusters and "settles" to delay the official announcement of default so Germany and France can get the maximum political benefits. In exchange, Germany and France will not oppose either Greece staying in the EEC after it goes off the euro or defaulting and staying on the euro and in the EEC.
The latest numbers for Greece suggest it generates enough revenue to pay all its non-debt expenses with enough left over to pay a bit of interest on its debt going forward. If that is not true at the moment due to the continued decline in the Greek economy, it will undoubtedly be true when Greece defaults and its economy and the resulting tax collections begin to recover.
The November prediction seems increasingly likely to occur - that Greece will meaningfully guarantee all Greek bank deposits and CDs, all its pension payments, and that it will continue to pay interest on that portion of its current debts held by Greek banks and other financial intermediaries. In other words, the Greek government will protect the Greek people. No surprise there.
Also, though the odds are increasingly against it because the default will leave Greece with enough revenue to cover its expenses other than its sovereign debt, is that the Greek government will use the default to implement at least some economic changes to help its economy in the future.
Another November prediction that also may come true in the end is that Greece will provide "political cover" to the leaders of the Common Market by "paying' off" its current debt with non-interest bearing bonds with no due date. Anyone who gambles on these being paid would be better off buying the Brooklyn Bridge. Sorry Mr. Corzine.
So Where Can Investors Find Profits In This Event?
My first suggestion for investors and traders: Look at Greek companies and banks as quickly becoming much more profitable: the very real likelihood that Greece will protect its own banks and their depositors, while ignoring everyone else, makes publicly traded Greek banks and companies an interesting speculation as one of the few possible winners from the default (see the National Bank of Greece and other Greek banks and electronic traded funds such as GREK).
The big win for Greece occurs if it goes off the euro and stays in the EEC. The depreciation of its new currency will provide a major uptick in Greek exports and tourism and will encourage EEC companies to relocate to Greece where the cost of living and producing will now be substantially less expensive. Greek companies engaged in tourism and exports will be very good investments. Tourism companies such as Attica Holdings (ATTICA), and exporters such as Unibios (BIOSK).
Another big winner, at least initially until its downward trend overwhelms its temporary Greek bounce, will be gold. There is going to be turmoil and uncertainty in the "cake walk" of the world's financial markets until it is certain who, besides MF Global, ended up with the old Greek bonds-- and thus, the losses-- when the Greeks sit down on the only remaining chair. Gold is still viewed by many as a safe haven, and there will be renewed calls for currencies to have gold "backing"-- - which won't happen but will certainly encourage the buying of gold until reality sets in once again and gold's long term decline continues.
The governments of other countries with unpayable sovereign debt are likely to quickly follow Greece in fairly quick succession. There will be quite a bit of turmoil, and what actually happens when Greece defaults, not what is announced or claimed by the politicians, will be a great template for what will happen each time a new default occurs. Expect Italy and possibly Portugal to follow Greece off the euro.
Thus the second suggestion for investors and traders: Buy and sell in the expectation of similar swings in gold and the defaulting country's stock and bonds comparable to those that occur when Greece goes down.
In the long run several things are likely as Germany and some other countries such as the Netherlands and Finland continue on the euro. One is that the biggest losers from the defaults will ultimately be German shares, bonds, and banks - all of them. The departure of the weaker euro members will mean the euro is undervalued at its current exchange rates with other currencies, such as the dollar and pound. In other words, the euro will tend to rise each time a weak country leaves. Each time that happens it will make the exports of Germany, and the countries that remain on the euro, more pricey.
Each time the euro appreciates as weaker economies leave, the export sales from the remaining euro countries will tend to decline as a result of the stronger euro. This, in turn, will force the ECB to loosen up so interest rates fall in the euro block.
Thus my third suggestion: At some point short the shares of German and other euro country exporters, particularly those exporting outside the Eurozone with price sensitive products. Among those to consider: Hanse Yachts [H9Y], Aleo Solar (OTC:AEORF), Carl Zeiss [AFX], Elexis [EEX], Duerr (OTCPK:DUERF), Jenoptik (OTC:JNPKF), and Neschen [NSN].
The other thing to watch carefully is the reforms announced by the Greek and other governments when they announce their defaults. For investors and traders, these will be the very important back stories of the big news that there will be a default, probably more important than the news of the default itself.
My fourth suggestion-- and it's the most important: Investors and traders should particularly watch the back stories as it is likely the Greek, and other defaulting countries, will use the event to announce major economic reforms, such as going off the euro entirely but remaining in the Common Market and/or dramatically reducing taxes and regulations. Such changes, if actually implemented as opposed to merely being proclaimed at the time of default, particularly when coupled with the resulting appreciated euro, would attract German and other Common Market employers to relocate to Greece and cause the Greek economy to begin to boom. All the more reason to buy Greek stocks and bonds. The EEC companies that move to take advantage of the now-lower costs in Greece may also be good investments. Daimler (OTCPK:DDAIF), Siemens (SI), and companies such as those suggested for shorting are all good candidates to expand in Greece and elsewhere as they flee Germany.
My fifth suggestion: Carefully watch the euro's exchange rate in the sales of the companies in the euro block with a high percentage of export sales. The demand for some export products is inelastic, and the demand of others elastic. Some companies will not be hurt much by Greece leaving so that the euro strengthens, and others will really take a hit.
My sixth suggestion: Because Greece's revenues are sufficient to cover its current expenses when it has no debt service, bet on Greece defaulting and using its resulting small surplus to partially pay off the IMF and ECB, but not leaving the Common Market or going off the euro.
Where Will Greece End Up?
Because jettisoning its euro debt and going off the euro - and the possibility that the event will make it politically feasible for Greece to adopt major pro-business reforms - will all be good for Greek banks and companies, investors should view the default as a good time to buy Greek shares and bonds across the board.
If Greece does go off the euro it will almost certainly stay in the common market - then Greece and its companies and banks will boom relative to the countries remaining on the Euro. This is because even more German and other euro block companies will be setting up operations in Greece to take advantage of the lower costs of production, resulting from the absolutely certain major depreciation of the euro/Greek exchange rate.
Thus my seventh suggestion to investors: buy even more Greek shares and bonds if Greece both defaults, goes off the euro, and stays in the EEC. Same for Italy when it goes.
A Word of Caution
A word of caution. Investors and bondholders should not be gullible and believe everything (or anything) that is promised in the default announcements and the "agreements" and "settlements" that accompany them.
Similarly, investors should not be spooked about the impact of the default on United States' economy, sovereign debt and banks. The Greek default will have only the most minor effect on the United States - except that it will give the White House and its Federal Reserve appointees someone other than themselves to blame for the economy not recovering in 2012.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.