Winners & Losers
Research for Online Investors

by John Dalt

10/28/11

The eurozone ‘plan’ has restored confidence in the markets and we had a fantastic rally yesterday.  Actually, we had a serious case of short covering yesterday by traders that bet on the end of the world, and lost.

Who else lost?  Yesterday we wrote about the poor suffering taxpayers in Germany and other countries that are on the hook to pay for Greek, Italian, Spanish and Portuguese government largesse.  They don’t know it yet, but the bills will come due soon enough.  The cost to their economies will be higher taxes than otherwise, higher inflation and higher interest rates if they want to borrow money.

The other danger we pointed out was insistence on making bondholders take large losses on sovereign debt issued by Greece.  Rather than force default and trigger credit default swaps (CDS) that insured the debt, the governments of the eurozone bullied the bondholders into accepting a 50% loss on their bonds with the promise of security on remaining debt.

Who will buy eurozone sovereign debt in future with this precedent?  Reviewing some of the “details” of the plan, Greece owes approximately $500 billion in sovereign debt.  About $300 billion is held by investors and banks, many of them in Greece.  The $200 billion balance is held by the IMF and the European Central Bank (ECB).  Guess what?  The IMF and ECB are not going to take losses on their bonds.

What is good for the goose is evidently NOT good for the gander!  Their defense for this indefensible position is that they are willing to loan more money to Greece in the future…but aren’t they asking bondholders to do the same thing?

The duplicity of this is amazing to me.  It would be ‘difficult’ for the ECB and IMF to explain to taxpayers and member countries how their balance sheet just took a hit, but the politicians are happy to force a loss down bondholder’s throats.

Why didn't bondholders force Greece into default and collect the CDS or collect on government assets. When it comes to capital, and collecting a debt; sometimes it is a street fight. Bondholders were obviously sold down the river. Bondholders should have no altruistic reason to agree to take losses on their capital for any greater good.

Leave that to the politicians and non-government agencies like the ECB and IMF. They are the grand masters at rescues; let them do it with their own funds.

The bottom line on for the bondholders is they were not fully insured with CDS purchases.  The cost had sky-rocketed.  According to Bloomberg, there are 'only' $3.7 billion in credit default swaps sold against the $300 billion in Greek debt.

Spanish 10-yields jumped to 5.5% this morning.  Sounds like everything is hunky-dory in euroland.

Last night on Larry Kudlow’s CNBC show, Charles Dallara appeared to explain the negotiations over Greek debt haircuts.  Mr. Dallara is the managing director of the Institute of International Finance and was the lead negotiator for 450 global banks that make up the bulk of bondholders regarding existing Greek debt.  Mr. Dallara is a former assistant U.S. Treasury Secretary.  Kudlow was very respectful, but he never asked THE QUESTION “Why did you agree to take a loss?”  You can watch the interview.

There is more to this story, and as it comes out in the future we will all be disgusted. I can already assume Charles Dallara is the poster boy for what is wrong with bureaucrats in our Treasury and State Department.

U.S. negotiators give it away, and China is willing to come in…but only with an ironclad guarantee they don’t lose money. Oh, and they also want greater access to eurozone markets.

Italy sold ten-year bonds this morning…at 6.01% interest rates. This was close to the 6.1% from last week, the highest interest rates Italy has paid since joining the euro more than a decade ago. Berlusconi’s cabinet better get back to work on cutting budgets and raising retirement ages…I don’t think he has 15 years to do it!

We are bullish on the market, but advise you to be careful. We are still in a bear market, yesterday could have been a simple “bear trap.” Don’t let it grab you in its claws. Here is a chart of the S&P 500

The 78.6% Fibonacci retracement of the decline from 7/22 to 10/4 is 1289 (solid line) and the 200 day moving average is 1274. The market could go a little higher, but a correction is not out of the question and could be violent.

Mailbag:
Wonderful analysis yesterday on the eurozone ‘plan.’ Readable and astute, a rare combination.—subscriber J.R.

Well said! I am afraid you are absolutely right. People have an extraordinary capacity to believe what they want-even if it means to deny reality.—Long-Term subscriber R.R.

Definition:
Ineptocracy(in-ep-toc’-ra-cy) -a system of government where the least capable to lead are elected by the least capable of producing, and where the members of society least likely to sustain themselves or succeed, are rewarded with goods and services paid for by the confiscated wealth of a diminishing number of producers.

The information presented in this newsletter is based on generally available news releases, corporate filings, current events, interviews and the editor’s opinions. It may contain errors and you should not make investment decisions based solely on what you believe you have read here. Do your own research, it is your money. If you lose it, it is your responsibility, not ours or your grandmothers! The editor may or may not have a position in any securities discussed. The editor may have held a position in a security earlier, or in the future.

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