Will New Greek Bond Drama Threaten European Periphery? by Darren Williams, AllianceBernstein
Markets are reacting badly to Greek plans to exit its bailout program early. Uncertainties are being heightened by the prospect of early general elections. The end-result has been a sharp sell-off in Greek sovereign bonds, which has raised fresh concerns about the potential for spillover from Greek risks to other peripheral markets.
Greece’s government is negotiating the country’s exit from its financial assistance program when it concludes at year-end. Under current agreements, Greece’s European Union (EU) loans stop at the end of 2014, but its IMF program continues through early 2016.
Prime Minister Antonis Samaras has proposed an early termination of Greece’s IMF program, in the hope that a clean exit from both lending facilities at the end of the year would boost support for his administration. Greece claims to be “fully comfortable” that it can meet its financing needs without assistance, but the EU and IMF are much less confident. And, based on the recent sell-off in Greek bonds, there are big doubts in financial markets about supporting Greece without external involvement and against a backdrop of heightened political risks. In our view, with market access now in question, Greece will most likely be forced to stay under at least a precautionary program from the EU.
A Presidential Obstacle
The negotiations on Greece’s bailout exit come at a difficult time for Samaras’ government, with a growing chance that the inability to elect a new Greek president could trigger an early parliamentary election next year.
Every five years, the Greek president is elected by members of parliament (MPs), rather than through a direct popular vote. If parliament can’t muster a three-fifths majority to support a presidential candidate, it must be dissolved and new elections called. Opposition parties can use this as an opportunity to block the presidential candidate, and force early parliamentary elections. That’s precisely what’s happening now.
Several opposition groups, led by the Coalition of the Radical Left (Syriza), are committed to blocking the government’s nominee in presidential elections due next spring—on the expectation that an early parliamentary election would strengthen their own positions. Opinion polls currently suggest that Syriza might win nearly half the seats in the event of an early election, potentially ushering in a government under its leadership.
Financial markets and European political leaders are very uneasy about this prospect. Syriza, with its traditional anti-establishment approach, is likely to escalate confrontation with Greece’s official lenders to new levels.
Greek Bond Yields Spike
Rising uncertainty around Greece’s financing and political outlook, alongside the recent spike in concerns about global growth, has led to a major sell-off in Greek government bonds. The yield on the 10-year bond has risen to 8.0%, from lows of 5.6% in early September.
In our base case, we now anticipate that an early parliamentary election will be held next year. If so, this will maintain selling pressure on Greek bonds in the near term. Against this backdrop, we are monitoring closely the potential for spillover to other peripheral markets. While in recent years there has been greater differentiation by investors between Greece and the rest of the periphery, the threat of an early election could reintroduce a degree of contagion.
Darren Williams is Senior European Economist and Dennis Shen is Economic Associate, both at AllianceBernstein.
The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AllianceBernstein portfolio-management teams. AllianceBernstein Limited is authorised and regulated by the Financial Conduct Authority in the United Kingdom.
