Greek bailout is back in private sector hands

@CNNMoneyInvest February 21, 2012: 11:56 AM ET

NEW YORK (CNNMoney) -- It looks like Greece will avoid an outright default in the short run now that eurozone finance officials have signed off on a second bailout for the debt-stricken nation.

But the rescue package worth €130 billion is contingent on a historic debt reduction agreement with private sector investors that must be approved before any bailout money can be released.

Assuming private sector investors sign off, Greece should be able to secure the funds it needs to make a €14.5 billion bond payment in March.

The terms of the private sector agreement include a write down of 53% on the face value of Greek government bonds, steeper than the previous 50% reduction agreed to in October.

The proposal will now be presented to members of the Institute of International Finance, which represents the private sector. The IIF's full committee will review the details and make a decision "in accordance with their own individual processes," according to a statement.

Eurozone approves new $173B bailout for Greece

IIF director Charles Dallara said in an interview with CNN's Richard Quest that he expects a high participation rate, but he acknowledged that each investor has the right to make their own decision.

Under the terms of the agreement, Greece's debt load will be cut by about €107 billion, equal to 50% of the nation's estimated economic output for the year. It will also reduce the amount of debt Greece needs to refinance over the coming years by roughly €150 billion, according to the IIF.

In addition to the write down, investors would exchange existing bonds for securities with lower interest rates. At the same time, investors would receive securities that could increase in value as the Greek economy improves, and EU officials would kick in a €30 billion "sweetener."

According to the IIF, the agreement represents the largest sovereign debt restructuring in history.

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Overall, the deal will result in losses of 74% for the private sector, according to Marc Chandler, head of global currency strategy at Brown Brothers Harriman.

Given the onerous terms, he said reaching the targeted 95% participation rate "seems unlikely." He also suggested that an official endorsement by the IIF may not mean that all private sector investors are on board.

"It is not clear how much the IIF really represents the private sector," said Chandler, in a note to clients.

The concern is that a large number of investors will balk at the deal, forcing the terms to be renegotiated. That could delay the just-approved bailout and put Greece back at risk of a disorderly default.

The Greek government is expected to pass legislation this week that would force investors who reject the agreement to take losses on Greek bonds issued under domestic law, which make up the majority of the nation's debt load.

The presence of so-called collective action clauses would not qualify as a "credit event," according to the International Swaps and Derivatives Association. But the association suggested that activating the clauses could trigger credit default swaps, a form of insurance that investors use to protect against a default.

Credit default swaps, or CDS, were a major contributor to the 2008 financial crisis, when declines in the U.S. housing market caused banks to suffer major losses on mortgage-backed securities.

But analysts say the Greek CDS market is small and such a credit event would probably not shock the global financial system.

"The net Greek CDS positions of systemically-relevant financial institutions appear to be relatively limited," said Tobias Blattner, euro area economist at Daiwa Capital Markets.

-- CNN's Richard Quest contributed to this report. To top of page

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