by Kyriakos Tsatalpasidis*
Despite extremely adverse conditions in 2020, Greece was praised by the bond markets.
The interest rate on the Greek 10-year bond de-escalated to 0.63% from 1.46% at the beginning of the year. The Greece 10 Years / Germany 10 Years Government Bond spread was compressed to 1.2%, the lowest since October 2008 (Graph.1).
Thus, holders of Greek bonds enjoyed an extraordinary, for euro investment standards, annual total return of 9.83% (Graph.2).
But how was such an impressive performance possible?
Greece has piled up significant cash reserves (‘cushion’), to be able to finance its needs, regardless of market conditions.
- The structure (profile) of the total Greek debt is extremely favorable in terms of maturities.
- Furthermore, its holders are mostly European institutions.
Dealing with the pandemic crisis has forced the EU to rise to the occasion and, along with its long-term budget, has adopted the NGEU framework for stimulating the European recovery. Greece, with a 10% of GDP share, will be one of the highly benefited NGEU countries. This, combined with a change of the ECB attitude, lead informally to a common debt arrangement, a framework that favors the weak countries of the Euro Area (with the consequent wider de-escalation of spreads).
A number of factors safeguard the stability of the Greek financial system:
– plenty of liquidity to the banking system by the ECB (TLTROs), which restores sluggish credit expansion and financial support to businesses
– the reduction of NPL’s (non-performing loans) to 35.8% of GDP
– further reduction of NPL’s expected thanks to the planned Asset Management Company (Argo)
– the new bankruptcy law, that which definitely greatly improves the bank’s balance sheets.
The recent upgrade of Greece’s rating by Moody’s offers support to the country’s debt.
Our optimistic estimation a year ago, was that the total return of the 10-year Greek bond would reach 6 to 8% by the end of 2020.
Finally, the market exceeded our expectations with a total 9.8% yield. Our assessment was based on the working hypothesis that Greece would be upgraded by at least one rating to BB +.
If the same conditions are met in 2021, (ie the country ‘s debt be upgraded by one notch to BB+ from BB), it would mean, in the most favorable scenario, the reduction of the spread with the German bond from 115 to 77 (by 0.38%) or a total return of 3.3% (for the Greek 10year Bond).
Respectively, in case of an upgrade from BB to BBB- (the rating of Cyprus for example), would lead, in the most favorable scenario, to reduce the spread with the German bond to 70 (by 0.45%) or a total return of 4% (Graph. 3).
We believe it is impossible for Greece to join the investment grade group in 2021 and very difficult in 2022. The possibility of one notch upgrade is also considered limited. These conditions will make it difficult to further compress spreads.
A substantial capital return would only result if the German bond yield was to retreat to lower levels. We consider that such a possibility would be completely short-lived and in the current circumstances very difficult to happen. Furthermore, given the improving economic climate in the European Union, it is much more realistic to expect interest rates to be driven to higher levels (towards 0%) and thus lead to capital losses.
Despite the fact that Greece managed to stand out in terms of its bond yields but that was not the case with its stock market yields. With such historically low levels of borrowing cost, one would expect Greek stock prices to rise, as their risk premium has fallen. Instead, the general index of the Athens Stock Exchange lost 11.75% instead (Graph 4).
In the current situation, we are called to evaluate the prospects of bond issues and Greek equity values in 2021.
We should expect that only if favorable conditions prevail, bond rates can have a downward effect and Greek stock prices will outperform. The positive scenarios for the next year must necessarily include a satisfactory outcome in the health field (effective vaccination of the population and fight against the pandemic), with a faster recovery than the third quarter of 2020 GDP, fast and efficient use of NGEU funds, strengthening the reform agenda and, of course, political stability (in the sense that any scenario of early elections will be avoided)
*Kyriakos Tsatalpasidis is investment Advisor, Technical Analysis Support & Research at HELLASFIN Investment Services S.A