Greek Election: Update
The day of reckoning rapidly approaches: on Sunday 25th January the Greek electorate will decide on which party will lead the country at this critical juncture in its history. On the one hand we have an incumbent government that is widely seen as ineffective and prone to corruption, on the other a seemingly promising alternative offered by a young and charismatic politician in the figure of Tsipras. The majority desire some sort of change in terms of domestic politics, but there is a widespread mistrust of the possible implications of Syriza’s policy on seeking to renegotiate the terms of the bailout agreement with Greece’s Troika of lenders. On a similar note, the majority of Greeks wish to remain in the Euro, but there is widespread anger at austerity, especially given the perception that the burden is not being shared in an equitable manner. Tsipras has skilfully exploited these conflicting desires and his populist message promises less austerity, more growth and a material reduction in the national debt thanks to debt forgiveness on the part of Greece’s creditors (not to mention his promise to root out and punish those who have abused their position by putting their own self-interest before the public good). For detached observers, Tsipras’ promise to remain within the Euro whilst also achieving a material reduction in the debt burden simply does not stack up and, were Tsipras to become Prime Minister, a showdown with the Troika and an increased probability of a tail end event coming to pass looks to be inevitable. Matters are exacerbated by the sort of simplistic game theory which is part and parcel of at least the unofficial debate, which runs along the lines of Greece being too systemically significant to be allowed to exit. This sort of talk feeds into Tsipras’ belief that he can push the Troika into making material concessions.
Thus the background. So how do the polls look going into the election? We make the following observations (please refer to my previous articles on this topic, particularly ‘Grexit or Grin?’ for context): Syriza’s lead seems to have widened by anything between 100-200 bps, and consequently the gap between Syriza and New Democracy now looks to be c. 4.5-5.5% (up from around 3.5%); furthermore, both Syriza and New Democracy seem to have gained votes at the expense of the smaller parties, with Syriza now estimated to be at c. 30.5-32.5% and New Democracy at 26-27%. Papandreou has scarcely capitalised on his initial momentum and may or may not achieve representation (i.e he is on the cusp with around 3% of vote); ANEL looks like it might just achieve representation as recent momentum appears to have carried it over the threshold (forecast c.3.3%), and DIMAR will almost certainly fail to achieve it (current forecast c.1-1.5%). In terms of the rest, PASOK is perhaps a touch worse (current estimate c.4.5% vs original estimate of c.5%), Potami in line (c.5.5-6% vs previous estimate 6%) and Golden Dawn a touch worse (c.5% vs previous estimate c.6%), while KKE has slipped slightly (estimated 4-5% vs prior estimate c.6%). However, given the fact that the ‘undecided’ vote still remains high at around 10-12%, exit polls cannot be definitive and forecasting remains difficult; though I would note that the outside chance of a win for the incumbents that I highlighted as a possibility in my first post on this topic now looks as if it can be ruled out on the basis of current trends. Consequently, the best case outcome has effectively been removed from the equation.
As an aside, in a scenario where some of the smaller parties that are currently on the borderline of achieving representation actually fail to do so, the effect is to lower the percentage of the vote required to achieve a majority: hence that percentage may be lower than the c.37.5% initially calculated (which was based on an estimate that around 7% of the vote would go to parties that fail to achieve representation); for example, if a total 12% of the vote goes to parties that fail to achieve representation, then the share of the vote required to achieve a majority falls to around 35.5%. Given some polls put Syriza at around 32.5% of the vote, this would clearly lower the bar in terms of Syriza being able to form a coalition, at least from a purely arithmetic perspective.
When it comes to the prospect of coalition partners, there are conflicting messages: Syriza has in the past expressed an unwillingness to work with any party but KKE (the communists), but KKE has ruled out working with Syriza. Venizelos, leader of PASOK (part of the current coalition), is believed to be willing to work with Syriza, though Syriza’s previous comments would seem to rule that out. Potami is a wild card: it may or may not decide to work with Syriza (and equally Syriza may or may not decide to work with it). This sort of non-committal attitude is clearly part of the usual political horse-trading, and it would be unwise to rule out a particular combination of parties forming a coalition – except of course the far-right Golden Dawn, which all other parties have categorically ruled out working with. Be that as it may, Golden Dawn is still likely to take a significant chunk of the vote and there is a real prospect that it challenges Potami for third place, thus continuing the theme we have seen elsewhere in Europe with regard to the rising popularity of extremist parties.
Ironically, it is this latter factor which I believe makes it more likely that some form of coalition will be achieved – contrary to the widely articulated belief that Syriza will seek an outright mandate to govern by choosing to go to a second election. This latter scenario would transpire if Syriza, having won the election but failing to achieve an outright majority, is either unable to, or chooses not to, form a coalition, and subsequently both the second and third placed parties also fail in their attempts to do so. In this respect, the task of the runners-up is all the harder given that the 50 seat bonus available to the first-placed party (if it goes on to form a government) is not available to them. The sort of broad cross-party support required to achieve a majority in this instance is seen as unlikely to be forthcoming, so in the event Syriza can’t or won’t form a coalition government, a second general election is likely. However, if Golden Dawn also beat Potami to third place, the prospect of them being asked to form a government is likely to send shivers through the Greek political establishment and would probably galvanise previously unwilling coalition partners to seek common ground, thus avoiding a second election.
The central case outlined in my initial post on this topic stands: Syriza wins the election, but fails to achieve an outright majority; however, it subsequently manages to form a coalition with one (or two) of the smaller parties and thus the forthcoming election will result in a new government. Thereafter, Tsipras, under pressure from the far left of his party and behoven to at least appear to make good on his election promises (or, alternatively revealing himself as being ideologically committed to making good on those promises), plays a game of brinksmanship with the Troika, ultimately triggering the collapse of the coalition and a further general election.
The tail end risks remain as follows: 1) Greece enters technical default as Tsipras prolongs negotiations with the Troika past one of the debt repayment dates, resulting in increased noise around ‘Grexit’ (though I do not believe that an automatic expulsion of Greece from the Eurozone would be made on such technical grounds alone, it is impossible to be definitive on this); and/or 2) Tsipras, rebuffed by the Troika, succeeds in calling for a referendum on continued Euro membership couched in terms that tie remaining in the Euro to adhering to the bail-out agreement; the widespread anger at the ongoing austerity programme would make this vote a close call, thus significantly raising the probability of the exit scenario. With regard to such a referendum, it is only likely to come about if the coalition partners are all in agreement. Since most of the potential partners have stressed that they won’t take any action that might precipitate Greece’s exit – a statement that, somewhat ironically, they do not see as ruling out a coalition with Syriza per se – one has to assume that agreement would not be reached with regard to holding such a referendum and the coalition would simply fall apart, triggering a general election. I would also note that if Papandreou’s party were to fail to achieve representation, the risk of Syriza forming a coalition with a party that could potentially have backed a proposal for a referendum would be negated. Conversely, if it does achieve representation and enters into coalition with Syriza, we should be prepared to countenance outcomes whereby a referendum on Greek Eurozone membership actually takes place (please see my previous post ‘Mind the GAP‘),
The theoretical trading strategy remains one of initiating short positions (focused on the Greek banks) once Tsipras begins negotiations with the Troika. Alternatively, if the Greek equity market begins to fall as soon as a Syriza-led coalition government comes in, and no relief rally is forthcoming, shorts should be initiated without delay. In the worst case scenario whereby Syriza achieve an outright majority – impossible to rule out given the size of the ‘undecided’ vote, the possibility that a number of the smaller parties may ultimately fail to achieve representation, and the fact that Syriza seems to be extending its lead – then short positions should be immediately instigated.
The prospect of a relief rally on Syriza winning and subsequently forming a coalition government – on the basis that Tsipras might ‘do a Papandreou’ (Andreas, that is, not Georgios) and about-face on his election promises – has been given a further dimension by Thursday’s announcement of QE by the ECB. Draghi was careful to draw attention to certain eligibility factors regarding countries on an EU/IMF adjustment programme, clearly a carrot-and-stick approach that sends an unequivocal message to Greece: ‘adhere to the austerity plan and enjoy the fruits of ECB largesse, abandon the austerity plan and find yourself out in the cold’. In any case, due to technical factors relating to issuer concentration with regard to ECB bond purchases, Greece will be on the sidelines until July, by which time there will be more clarity on the attitude of the new government.
This raises the stakes. The prospect of Greece possibly remaining outside of any QE programme – were a Tsipras government to fail to adhere to bailout terms – is undoubtedly being interpreted in some quarters as the first stage of preparations for a potential Greek exit from the Euro. This would reinforce the narrative initiated in the recent article in Der Spiegel regarding a change in German attitudes towards a Greek exit. Whilst I think the announcement of QE is unlikely to materially alter the outcome of the election itself – there is simply too great a desire for a change of leadership on the part of the Greek electorate – it may conversely give a higher probability to a relief rally post election (in the event Syriza win and subsequently form a coalition). The rationale here would be that the downside risk of non-compliance with the bailout terms may be judged to be all the greater: the prospect of Greek exclusion from QE may be viewed by market participants as giving those within Syriza who maintain that Greece is systemically too important to be allowed to exit pause for thought. Whilst the logic can’t be faulted, Tsipras is – however much one may not like his brand of politics – an idealist and, as such, a wild card. Any relief rally on this basis should be faded.
Similarly, if and when an impasse is reached in negotiations with the Troika, the market is likely to ascribe a higher probability than before to the possibility of Greek exit on the basis that QE might be perceived as a sort of firewall capable of shielding the Eurozone from the resulting fall-out. This should increase prospective returns from the short strategy. I maintain my view that, ultimately, Greece will not exit from the Eurozone, but reiterate that there are likely to be periods in the coming months where there will be a heightened probability of tail end risks manifesting, resulting in high volatility with a skew to the downside for the Greek equity market.
Please see Disclaimer