By Anthony Harrington
It is a great shame that the logic of human evolution did not require our species to develop a sharper understanding of the fact that short term gains bought at the expense of long term pain are, in reality, no gains at all. If it had, no one would be obese for other than clinical reasons, and certainly not because of a love of Big Macs or a fondness for sweet things. And we would never have had the 2008 global financial meltdown.
States would never over borrow and there would be no European sovereign debt crisis. And assuming we had got ourselves into this pickle somehow, Greece’s creditors would have done the decent thing, with a minimum of fuss, and would have accepted debt haircuts far more readily. Their new bonds would have had a coupon rate that would allow Greece to recover – instead of grinding its way to extinction. As I say, if only…
However, evolution, it seems, did not see the necessity of working that way. Or not on a time scale that helps us with our present dilemmas. Maybe in another few hundred thousand years or so. Therefore we have to deal with the world as it is, and how it is right now is that hedge fund holders of Greek debt can plainly see a short term gain by not falling into line with institutional debt holders and accepting a “voluntary” deal.
The logic is simple. If they accept a voluntary deal they lose, say, 65% of their money outright and get a new bond worth 35% of the old bond, with a much reduced coupon rate. Say, 2% if the IMF gets its way, or perhaps 4% or slightly better if the institutional creditors get their way. If, on the other hand, they refuse and force Greece to default (since the IMF will not release the cash Greece needs on March 20th to roll over a chunk of debt without a private sector debt deal), then that will constitute a “credit event”. As such, the hedge funds will get their insurance payout on the defaulted debt – which will be better that what is currently on offer. At least, it will be better on paper.
The problem our short sighted friends in the hedge fund community have been sort of overlooking as they hang tough in the talks, is that the Credit Default Swaps which are providing them with that debt insurance, are largely written by banks who will almost certainly be sent into a tailspin by a disorderly Greek default.
“Not before they pay out on our swaps,” some managers might retort. Maybe. But what of all the other holdings in said hedge fund portfolios that rely upon the idea of a stable Europe to retain their value? As I said, there is a fatal attraction in short term gains …
By the time this blog is “live” it may well be that sense would have prevailed, or some inducements will have been found to make the hedge funds sign up to the Greek deal. But history will always show that we tip toed up to the cliff edge yet again merely because some small group couldn’t see the wood for the trees. Are we really that dumb as a species, or there some peculiar filter that selects out certain types to be bankers and hedge fund managers?