Greece and the investors who bought its bonds have the beginnings of a deal that could avert a disastrous, long-feared Greek default on its debt. But don't expect a celebration on Wall Street this week.
If the deal holds and works, it will help prevent a potential shock to the world banking system. It will also remove one of the biggest threats to the impressive rally in U.S. stocks this year.
The problem for investors is that good news _ like real improvement in Greece's long-term finances _ is likely to develop in slow motion. Bad news, like a breakdown in the debt talks or a spasm of market fear, would be faster. Punch-in-the-nose fast.
"I think they'll probably be happy, but I don't really see this accomplishing very much in the long term," says Michael E. Lewitt, editor of The Credit Strategist, an investor newsletter.
"They're not solving any of these problems," he says, so if things go wrong, "it's likely to be a much worse sell-off."
Under the tentative agreement, announced Saturday, investors holding euro206 billion in Greek bonds, or about $272 billion, would exchange them for bonds with half the face value. The replacement bonds would have a longer maturity and pay a lower interest rate.
The deal would reduce Greece's annual interest expense from about euro10 billion to about euro4 billion. When the bonds mature, Greece would have to pay its bondholders only euro103 billion.
It is unclear how investors who buy and sell the bonds of other debt-burdened countries, such as Italy, Spain and Portugal, will react. If they drive up borrowing costs for those countries, the debt crisis could get worse.
Private investors hold two-thirds of Greece's debt, which is equal to an unsustainable 160 percent of its annual economic output. By restructuring the debt, Greece hopes to make it a more manageable 120 percent by decade's end.
Greece's public creditors _ the International Monetary Fund, the European Union and the European Central Bank _ want the government to cut public salaries further to bring the national budget in line.
That proposal has been met with resistance by Greek politicians afraid of losing elections this spring. But they also worry Greece will be denied euro130 billion in bailout money if it can't cut its deficit.
The restructuring of Greece's private debt could still fall apart. If it does, that could mean trouble in the U.S. markets, which have enjoyed a placid January of steady gains.
The Dow Jones industrial average is up 3.6 percent in the young year. The Standard & Poor's 500 index has gained 4.7 percent, roughly half its average gainfor a full year.
If the Greek talks break down, "the stock market could probably lose half its gains for the year," Jeffrey Kleintop, chief market strategist at LPL Financial, said last week, before Greece and the private investors reached their tentative deal.
On paper, it's hard to see how Greece could take down financial markets in the U.S., the world's biggest economy, with $15.2 trillion in goods and services churned out every year.
Greece's annual economic output is euro220 billion. That translates to $285 billion, on par with the economy of Maryland. The U.S. sells $1.6 billion in weapons, medicine and other products to Greece each year, a minuscule 0.07 percent of exports.
U.S. banks say Greece on its own poses no danger to them. Unlike European banks, they're not major lenders to Greek businesses and aren't saddled with Greek government debt.
In its most recent report, JPMorgan Chase, the largest bank in the U.S., said it had just $4.5 billion at risk in Greece, Ireland and Portugal combined. That's about what the bank makes in revenue in two and a half weeks.
Some investors worry that U.S. banks would struggle to cover the $68 billion in insurance contracts they sold on Greece's government debt.
That's hardly enough to pull down the banking system. And the banks have offset all but $3.2 billion of those contracts with other contracts. In other words, pocket change.
"The direct impact of a Greek default is almost zero," Jamie Dimon, CEO of JPMorgan Chase, told CNBC on Thursday.
So what's everybody _ well, everybody but Jamie Dimon _ worried about?
A breakdown in talks could trigger steep losses in stock markets in Europe and the U.S. It could cause borrowing rates for Portugal and Italy to jump, pushing those much larger countries closer to defaults of their own.
A Greek default could unleash a host of larger problems. While some are already anticipated, others are likely to blindside even the closest observers, says Nick Colas, chief market strategist at ConvergEx Group.
"In any complex system, you're going to have unintended consequences," he says.
He compares it to the collapse of Lehman Brothers investment house in September 2008: Some analysts saw it coming, but the fallout still caught them by surprise. For a time, even super-safe money market funds were suspect.
At a conference on sovereign debt this week in New York, Steve Hanke, professor of economics at Johns Hopkins University, predicted that even commodity prices would plunge in response to a messy Greek default.
Traders seeking safety would immediately sell euros and buy dollars, Hanke said. The dollar would soar and prices for commodities like oil and wheat would collapse. A single dollar would buy much more oil or wheat.
"If the bomb is set off by Greece, commodity prices will collapse," Hanke said.
Hanke, who has advised governments around the world on managing their currencies, argued that Greece appears bound to collapse under its debts as its economy shrinks. "Greece is doomed," he said.
Hans Humes, president of Greylock Capital Management, warns that if banks and investment funds that hold Greek bonds take steep losses, then Portugal, Italy and other countries shouldering heavy debt burdens can be expected to follow Greece's lead.
It's comparable to a messy default. Traders will respond by immediately selling government bonds from those countries, Humes said. Borrowing costs will rise, and Europe's debt crisis will turn much worse.
Humes has been involved in the negotiations on the side of creditors holding Greek bonds, so he has a stake in the game. But it's a scenario other money managers often cite.
"There's a fear that other countries won't negotiate at all. They'll just say, `We'll pay you back at 50 percent or maybe less," Kleintop says.
To Colas, the deepest concern isn't how the S&P 500 reacts or whether the dollar rises if Greece drops the European currency. It's the possibility for panic, especially a run on European banks, some of the largest buyers of government debt.
"Human emotions can drive things off the rails," Colas says.
Freed reported from Minneapolis.
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